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Corporation Accounting 




BY 

NNETT, C.P.A. 

Director, Bennett Accountancy Institute; Author, 
"C.P.A. Questions and Answers, " etc.; Member, 
Insti ate of Chartered Accountants, Ontario; Member, 
Pennsylvania Institute of Certified Public Account- 
ants; Member, American Institute of Accountants. 



RONALD ACCOUNTING SERIES 



NEW YORK 

THE RONALD PRESS COMPANY 
1916 



"$< 



Copyright, 1916, by 
The Ronald Press Company 



if , crt 






DEC 19 1916 



William G. Hewitt Press, Brooklyn. Printers 
J. F. Tapley Co., New York, Binders 



CI.A446833 



The Late Ellen Bartley Bennett, 

This Book Is Affectionately 

Dedicated 



PREFACE 

Corporation accounting does not differ in its essentials 
from the accounting of any other form of business organi- 
zation. There are, however, certain transactions, accounts, 
and entries employed in it which are either peculiar to the 
corporation or so seldom encountered elsewhere that they 
may properly be termed distinctive. It is with these dis- 
tinctive transactions and their accounting treatment that the 
present volume concerns itself, and not with the general 
problems of accountancy. 

As companies are formed; as stocks of differing char- 
acteristics are subscribed for, issued on varying terms, for- 
feited, donated, resold or cancelled; as bonds of different 
classes are issued, sold, purchased or redeemed at maturity ; 
as sinking funds and reserves are set up for the protection 
and redemption of these bonds; as dividends are declared 
or assessments are levied; as companies are reorganized, 
liquidated, or become insolvent, the accountant is confronted 
with difficult problems — problems which frequently, because 
of the magnitude of the amounts involved, or because of the 
legal consequences of error, call for a care and accuracy of 
treatment beyond the ordinary. 

In all these matters the corporation accountant may 
well profit by the experience of those who have already 
grappled with and solved these problems, and it is the pur- 
pose of this volume to present such solutions and to set 
forth the established practice, wherever practice has been 
established. In this the author trusts he has been successful. 

It must be said, however, that in the treatment of many 
corporate transactions, practice — and good practice — is not 



VI 



PREFACE 



uniform, though the final result is, of course, the same. 
Where this is true, the author has endeavored to give all 
the methods of treatment in good accounting use. 

It may also be noted that most of the illustrative entries 
in the present work are, for the sake of clearness and 
simplicity, given in journal form even though many of 
them are cash entries that in practice would appear only in 
the cash book. 

A considerable amount of space has been devoted to 
those details of corporate organization, practice, and proce- 
dure which more directly affect the work of the accountant. 
This information is so essential to the proper understanding 
and handling of the corporate accounts, that the author felt 
that it should not be omitted. Much of this has been taken 
from the works on corporate organization and management 
by Mr. Thomas Conyngton, to whom the author extends his 
sincere thanks. 

The author also gratefully acknowledges the valuable 
assistance given by corporation officials, bankers, corporation 
accountants, public accountants and others, and especially 
by brother members of the Pennsylvania Institute of Cer- 
tified Public Accountants. 

R. J. Bennett. 
Philadelphia, Pa. 
October I, 191 6. 



CONTENTS 



PART I— CORPORATION ORGANIZATION AND 

PROCEDURE 

Chapter Page 

I The Corporate Form ... i 

§ i. Business Organization 

2. The Corporation 

3. Kinds of Corporations 

4. Public Utility Corporations 

5. Corporations Created by and Subject to 

State Laws 

6. Procedure for Incorporation 

7. Nature of the Corporation 

8. The Charter 

9. The By-Laws 

10. Management of the Corporation 

11. Capital Stock 

12. Shares of Stock 

13. Stockholders 

14. Certificates of Stock 

15. Voting 

16. Advantages of the Corporate Form 

17. Disadvantages of the Corporate Form 

18. Summary of Taxes and Reports 

19. The Corporate Records 

II Kinds of Stock .... ,. : . 16 

§ 20. Capitalization 

21. Capital Stock and Actual Capital 

22. Shares Without Par Value 

23. The Functions of Corporate Stock 

24. Nature of Stock 

25. Issued and Unissued Stock 

26. Full-Paid and Partly Paid Stock 

27. Treasury Stock — Donated Stock 

vii 



viii 




CONTENTS 


Chapter 








28. 


Common and Preferred Stock 




29. 


Dividends on Preferred Stock 




30. 


Convertible Stock 




31- 


Guaranteed Stock 




32. 


Watered Stock 


III 


Meetings; the Corporate Calendar . 




§ 33- 


The Annual Meeting 




34- 


Time of Annual Meeting 




35- 


Preliminary Arrangements for Annual 
Meeting 




36. 


Annual Meeting — Closing Transfer Books 




37- 


" — Stockholders' List; No- 
tices ; Proxies 




38. 


" — Quorum 




39. 


*' " — Opening Formalities 




40. 


" — Election of Directors 




41. 


" " — Cumulative Voting 




42. 


" " — Reports 




43- 


" " — Minutes 




44- 


Directors' Meetings 




45- 


Special Meetings 




46. 


The Corporate Calendar 




47- 


Contents of Corporate Calendar 




48. 


Form of Corporate Calendar 



Page 



30 



PART II— CORPORATION RECORDS AND 
ACCOUNTS 



IV The Books and Records of a Corpora- 



tion 

§ 49. Books of Accounts 

50. Requirements 

51. Inspection of Corporate Records 

52. Corporate Books of Record 

53. The Minute Book 

54. Stock Subscriptions 

55. The Subscription Book or List 



44 



CONTENTS 



IX 



Chapter 



56. Instalment Receipts 

57. Stock Scrip 

58. The Instalment Book 



Page 



The Books and Records of a Corpora- 
tion (Continued) 

§ 59. Treasurer's Receipt for Subscription Pay- 
ment 

60. Stock Certificate Book 

61. Assignment of Stock Certificate 

62. Stock Transfer Book 

63. Register of Transfers 

64. Stock Register 

65. Stock Book or Stock Ledger 

66. Form of Stock Book or Stock Ledger 

67. Dividend Book 

68. Dividend Order 



60 



VI Distinctive Corporate Accounts . 

§ 69. Accounts Peculiar to Corporate Bookkeeping 

70. Capital Stock — Common 

71. Capital Stock — Preferred 

72. Capital Stock Authorized 

73. Unissued Stock 

74. Subscriptions to Stock 

75. Capital Stock Subscribed 

76. Instalment Account 

77. Treasury Stock 

78. Donation Account 

79. Premium on Capital Stock 

80. Capital Stock Without Par Value 

81. Organization Expenses 

82. Surplus 

83. Dividends 

84. Bonds 

85. Bond Premium 

86. Bond Discount 

87. Interest on Bonds 

88. Accrued Interest on Bonds 

89. Sinking Fund 

90. Sinking Fund Reserve 



80 



x CONTENTS 

Chapter Page 

91. Sinking Fund Income 

92. Good-Will 

93. Investment in Stocks and Bonds of Other 

Companies 



PART III — SPECIAL ENTRIES RELATING TO 
TRANSACTIONS IN STOCK AND DIVIDENDS 

VII Stock of Original Issue .... 101 

§ 94. General Conditions 

95. Pro Forma Statement 

06. Opening Entries — Stock Full-Paid (Plani) 
97- " " - " ( " 2) 

98. Stock Sold on Instalments (Plan 1) 

99. Stock Sold on Instalments (Plan 1) — 

Ledger Accounts 

100. Stock Sold on Instalments (Plan 2) 

101. Sale of Stock After Organization 

102. Stock Sold Below Par 

103. Stock Sold Above Par 

104. Stock Issued at a Premium to Create a 

Surplus 

105. Payment of Salaries in Stock 

106. Payment of Commissions in Stock 

VIII Treasury Stock and Stock of Other 

Companies 119 

Transactions in Treasury Stock 

§ 107. Donated Stock 

108. " " —First Method of Entry 

109. " — Second Method of Entry 
no. Bonus Paid in Stock 

in. Purchase and Sale of Corporation's Own 
Stock 

112. Entries for Purchase and Sale of Corpora- 
tion's Own Stock 



CONTENTS xi 

Chapter Page 

Transactions in Stock of Other Corporations 

113. Purchase and Sale of Stock of Other Cor- 

porations 

114. Entries for Purchase and Sale of Stock of 

Other Corporations 

115. Entries When Stock is Exchanged for 

Stock of Other Corporations 

IX Dividends and Their Entry . . .133 

§ 116. The Nature of Dividends 

117. Directors' Powers as to Dividends 

118. Informal Distribution of Corporate Profits 

119. Surplus — Equalizing Dividends 

120. Declaration of Dividends 

121. Notice of Dividend 

122. Ownership of Dividends 

123. Payment of Dividends 

124. Dividend Sheet or Book 

125. Entries for Cash Dividends 

126. Dividends Paid with Borrowed Money 

127. Entries for Scrip Dividend 

128. Entries for Special and Interim Dividends 

X Dividends and Their Entry (Con- 
tinued) 147 

§ 129. Entries for Dividends Applied to Stock 
Subscriptions 

130. Entries for Cumulative Dividends 

131. Entries for Stock Dividends 

132. Entries for Bond Dividends 

133. Bank Dividends 

134. Property Dividends 

135. Unearned Dividends 

XI Proprietorship Incorporated (New- 
York) 156 

§ 136. Organization Procedure 

137. General Provisions 

138. Financial Details of the Incorporation 

139. Certificate of Incorporation 



xii 


CONTENTS 


Chapter 




140. 


Filing the Certificate of Incorporation 


141. 


First Meeting of the Stockholders 


142. 


Minutes of First Meeting of Stockholders; 




By-Laws 


143. 


Minutes of First Meeting of Directors; the 




Stock Book 


144. 


Journal Entries 


145. 


Cash Book Entries 


146. 


Other Entries 


XII Manufacturing and Mining Corpora- 


tions 




Manufacturing Corporation 


§ 147. 


Details of Incorporation 


148. 


Statutory Records 


149. 


The Books of Account 


150. 


Journal Entries 


151. 


Cash Book Entries 


152. 


The Ledger Accounts 




Mining Corporation 


153. 


Details of Incorporation 


154. 


Opening Entries 


155. 


Entries for Donated Stock 


156. 


Entries for Forfeited Subscription 



Page 



166 



XIII Partnerships Incorporated . 

§ 157- Good-Will 

158. Determination of the Value of Good-Will 

159. Accounting Treatment of Good-Will 

160. Conditions of the Incorporation 

161. Agreement for Incorporation 

162. Allotment of Stock 

163. Underwriting Expenses 

164. Balance Sheets of the Incorporating Firms 

165. Statutory Requirements 

166. Opening Entries 

167. Closing the Partnership Books 

168. Closing Entries on Books of Lowell, Ma- 

son & Company 

169. Closing the Books of Oliver & Dickson 

170. Balance Sheet of New Company 



177 



CONTENTS x iii 

PART IV— CORPORATE BOND ISSUES 

Page 
The Corporation Bond .... 197 

§ 171. Nature of the Bond 

172. Authorization of Bond Issues 

173. Constitutional and Statutory Provisions Af- 

fecting Bond Issues 

174. Procedure in Issuing Bonds 

175. Preparation of Bonds 

176. Terms Used in Connection with Bonds 

177. Issued and Outstanding Bonds 

178. Sinking Funds 

179. Sale of Bonds 

180. Liabilities of Vendor 

181. Rights of Holders 

XV Classification of Bonds .... 208 

§ 182. General Classification 

183. Debentures 

184. Mortgage Bonds 

185. Coupon Bonds 

186. Registered Bonds 

187. Kinds of Bonds 

188. First Mortgage, etc., Bonds 

189. Junior Lien, etc., Bonds 

190. Gold, etc., Bonds 

191. Convertible Bonds 

192. Serial Bonds 

193. Redeemable Bonds 

194. Profit-Sharing, etc., Bonds 

195. Income Bonds 

196. Collateral Trust Bonds 

197. Guaranteeed Bonds 

198. Consolidated, etc., Bonds 

199. Interest Bonds 

200. Terminal, etc., Bonds 

201. Car Trust Bonds 

202. Purchase Money Bonds 

203. Short Term Notes 

XVI Bond Forms 221 

§ 204. Form of Bond 



XIV 



CONTENTS 



Chapter 



XVII 



205. Form and Nature of Coupon 

206. Trustee's Certificate 

207. Deed of Trust 

208. Recitals of Deed of Trust 

209. Duties of Trustee 

210. Execution and Filing of Deed of Trust 

211. The Bond Register 

212. Form of Bond Register 

213. Payment of Coupons 

214. The Coupon Register 

Bond Sales 

§ 215. Selling the Bonds 

216. Bond Issue Regulations 

217. First Mortgage Bonds Sold at Par 

218. Entry on Sale of Bonds 

219. Bonds Sold at Par and Accrued Interest 

220. Bond Subscriptions Paid for in Instal- 

ments 

221. Guaranteed Bonds 

222. Entries for Collateral Trust Bonds 

223. Entries for Short Term Notes 

224. Entries for Equipment Trust Serial Bonds 



Page 



239 



226. 
227. 
228. 



XVIII Bond Interest 

§ 225. Paying Bond Interest 

Method of Handling Interest Coupons 
Interest on Registered Bonds 
Bond Interest Accrued Monthly 
Interest on Two or More Bond Issues 
Interest on Treasury Bonds 
Interest on Guaranteed Bonds 
Interest on Income Bonds 
Interest on Special Bond Issues 
Interest Charged to Construction 
Income from Investments 



. 252 



229. 
230. 
231. 
232. 
233- 
234. 
235. 



XIX Bond Discount and Premium . 

§ 236. Bonds Sold Above or Below Par 

237. Bonds Sold Between Interest Dates 

238. Expenses of Bond Issue 

239. Entries for Bond Discount and Expense 



266 



CONTENTS xv 

Chapter Page 

240. Entries for Bond Premium 

241. Nature of Bond Premium and Discount 

242. Treatment of Bond Premium and Discount 

243. Effective Rate Method 

244. Varying Conditions Affecting Annual Charge 

245. Methods of Determining Charge to Income 

246. Operation of the Various Methods of De- 

termining Annual Charge to Income 

247. Determining Annual Charge when Pro- 

portionate Discount Is Written Off 

XX Sinking Funds 279 

§ 248. Function of the Sinking Fund 

249. Creation of the Sinking Fund 

250. Sinking Fund Created Out of Profits 

251. Safeguarding the Sinking Fund 

252. Adequacy of the Sinking Fund 

253. Annuity Method for Sinking Funds 

254. Calculating Fund Annuities 

255. Sinking Fund to Retire Preferred Stock 

XXI Sinking Funds (Continued) . . . 289 

§ 256. Sinking Fund Account 

257. Entries for Sinking Fund Instalments 

258. Entries for Sinking Fund Interest 

259. Entries for Sinking Fund Investments 

260. Entries for Investment in Issuing Com- 

pany's Bonds 

261. Entries for Bonds Cancelled Through Sink- 

ing Fund 

262. Entries for Sinking Fund Reserve 

263. The Sinking Fund on the Balance Sheet 

264. Entries on Books of Sinking Fund Trustee 

XXII Redemption of Bonds 305 

§ 265. Plans for Redeeming Bonds 

266. (1) Redemption of Bonds Through Sink- 

ing Fund 

267. (2) Bonds Drawn by Lot for Redemption 

268. Entries for Bonds Called for Redemption 

269. (3) Refunding Bonds 

270. Entries for Refunding Bonds 



xvi CONTENTS 

Chapter Page 

271. (4) Redemption of Serial Bonds 

272. (5) Entries for Convertible Bonds 
2J2>- Redemption of Collateral Trust Bonds 

274. Redemption of Short Term Notes 

275. Redemption of Equipment Trust Bonds 

276. Redemption of Guaranteed Bonds 
2J7. Bonds in Default 

278. Destroying Bonds 



PART V— CORPORATION REPORTS AND 

STATEMENTS 

XXIII Closing the Books ; Reserve Funds and 

Surplus 320 

§ 279. Closing the Books 

280. Procedure in Closing the Books 

281. Closing the Ledger 

Reserve Funds 

282. Reserve Accounts 

283. Reserve Accounts and Reserve Funds 

284. Secret and Hidden Reserves 

285. Depreciation 

286. Methods of Handling Depreciation 

287. Reserve for Depreciation 

288. Operation of Reserve for Depreciation Ac- 

count 

289. Sinking Fund for Exhaustion of Mines 

290. Insurance, Benefit, and Accident Funds 

Surplus 

291. Surplus or Undivided Profits Account 

292. Contributed Surplus 

293. Investments of Surplus 

XXIV Forms of Statements .... 338 

§ 294. Corporate Reports 

295. Necessity for Reports 

296. Form of Statements 

297. Balance Sheets 

298. Statements of Income and Profit and Loss 

299. Statement of Cash Receipts and Disburse- 

ments 



CONTENTS 



xvu 



Chapter 

XXV 



Page 



Preparation of Statements — Manu- 
facturing Corporation 
§ 300. Trial Balance 

301. Manufacturing Account 

302. Balance Sheet 

303. Trading and Profit and Loss Account 

304. Closing Entries in Journal 

305. Comments on Closing of Lake Manufac- 

turing Company's Books 



35- 



XXVI Preparation of Statements — Trading 
Corporation 

§ 306. Trial Balance 

307. Trading and Profit and Loss Statement 

308. Balance Sheet 

309. Closing Journal Entries 

310. Comments on Closing of Bryant-Chase 

Company's Books 



365 



XXVII 



Corporate Reports 

§ 311. Special Reports 

Reports to Stockholders 

Reports of Officers and Committees 

Committee Reports 

Auditor's Report 

General Manager's Report 

Treasurer's Report 

President's Report 

Statutory Corporation Reports 

The Annual Report 

Federal Corporation Report 

Taxable Corporations 

Exempted Corporations 

Return Made for Either Calendar or Fiscal 
Year 



374 



312. 
313. 
3i4. 
315. 
316. 
317. 
318. 
319. 
320. 
321. 
322. 
323- 
324. 



PART VI— CORPORATE COMBINATIONS 
XXVIII Methods of Consolidation . . . 390 

§ 325. Purposes of Corporate Combination 



xviii CONTENTS 

Chapter Page 

326. Methods of Corporate Consolidation or 

Control 

327. Expert Investigations 

Accounting Investigation Preliminary to 
Consolidation 

328. Scope of Investigation 

329. Report on Assets 

330. Report on Liabilities 

331. Revenue and Expense Accounts 

332. Cost of Operation 

333. Reports and Certificates 

XXIX Consolidation by Merger . . . 403 

§ 334« General Procedure for Merger 

335. General Conditions of the Merger 

336. Statement of Concerns to be Merged 

337. Terms of Merger 

338. Requirements for the Consolidation 

339. Procedure for Consolidation 

340. Opening Entries on Books of New Cor- 

poration 

341. (1) Entries for Issuance of Stock and 

Bonds 

342. (2) Entries for Assets and Liabilities 

Taken Over 
343- (3) Entries for Retirement of Outstanding 
Bonds and Mortgages of the Merging 
Concerns 

344. (4) Entries Relating to Sale of Securities 

345. (5) Entry in Settlement of Intercompany 

Obligations 

346. The Conduct of the Branches 

347. Closing Entries for Long Company 

348. Closing Entries for Vine Company ; Bell & 

Davis 

349. Closing Entries for Bain Company 

350. Balance Sheet for Bain Branch 

351. Consolidated Balance Sheet of New Cor- 

poration 

352. Consolidation by Purchase 



CONTENTS xix 

Chapter Page 

XXX Consolidation by Lease .... 429 

§ 353. Leases 

354. Entries for Property Leased 

355. Entries for Guarantees 

356. Lease Terms 

357. Entries for Lease of Mine 

358. Entries for Lease of Railway 

359. Entries for Improvements and Note Issue 

360. Adjusting Entries at End of First Year 

361. Entries for Union Mining Company 

362. Balance Sheet of Union Mining Company 

363. Entries for Wilson Transportation Com- 

pany 



XXXI Holding Companies 441 

§ 364. Classification of Holding Companies 

365. Controlling Corporations 

366. Status of the Subsidiary Company 

367. Legality of Holding Companies 

368. Accounting Procedure of Holding Company 

369. Accounting Requirements 

370. Operating Company Purchasing Controlling 

Interest 

371. Entries on Books of Purchasing Company 

372. Entries on Books of Selling Company 

373. The Consolidated Balance Sheet 

374. Parent Companies 



XXXII Consolidated Balance Sheets . . 456 

§ 375- Purposes of Consolidated Balance Sheet 

376. Contents of Consolidated Balance Sheet 

377. Preparation of Consolidated Balance Sheet 

378. Consolidated Balance Sheet with Inter- 

company Details 

379. Consolidated Balance Sheet without Inter- 

company Details 

380. Additional Illustrations of Consolidated 

Balance Sheets 

381. Consolidated Income Account 



XX 



CONTENTS 



PART VII— REORGANIZATIONS, RECEIVER- 
SHIPS AND DISSOLUTIONS 
Chapter Page 

XXXIII Reorganization by Agreement . . 469 

§ 382. Definition of Reorganization 

383. Methods of Reorganization 

384. Reorganization by Reduction of Stock 

385. Balance Sheet Before Reduction of Capital 

Stock 

386. Accounting Requirements 

387. (a) Procedure 

388. (b) Entries and Records 

389. Conditions of Reorganization 

390. Balance Sheet Before Adjustment 

391. Plan of Adjustment Adopted 

392. Accounting Requirements 



XXXIV Receivership 

§ 393' Receivers 

394. Appointment of Receivers 

395. Powers of Receivers 

396. Liability of Receivers 

397. Receivers -in Bankruptcy Cases 

398. The Receiver's Accounts 

399. The Company's Accounts During Receiver- 

ship 



481 



XXXV Receivership and Reorganization 

§ 400. Preliminaries to a Receivership 
Reorganization Agreement 
Conditions Preceding Receivership 
Statement of Affairs 
The Receiver's Activities 
Accounting Procedure 



487 



401. 
402. 
403. 
404. 
405. 
406. 
407. 
408. 
409. 
410. 



(1) Receiver's Records on Taking Charge 

(2) Record of Receiver's Transactions 

(3) Receiver's Closing Entries 

(4) Receiver's Statement to the Court 

(5) Adjustment of Company's Books on 
Appointment of Receiver 



CONTENTS 



xxi 



Chapter 



411. Entries to Adjust Inventories 

412. (6) Entries on Termination of Receivership 



Page 



XXXVI Receivership and Sale . 

§ 413. Introductory 

414. Statement of Condition 

415. (1) Receiver's Records on Taking Charge 

416. (2) Entries to Record Receiver's Activities 

417. (3) Receiver's Statement of Condition 

418. (4) Entries for Sale and Dissolution 



508 



XXXVII Dissolution of Corporations . 

§ 419. Voluntary Dissolution 

420. Dissolution Through Bankruptcy 

421. The Deficiency Account 

422. Realization and Liquidation Account 

423. Statement of Condition 

424. (1) Statement of Affairs 

425. (2) Deficiency Account 

426. Trustee's Cash Account 

427. (3) The Realization and Liquidation Ac- 

count 



517 



Appendix — Incorporation Forms . 

1. New York Charter 

2. By-Laws 

3. Certification of By-Laws 

4. Minutes of First Meeting of Stockholders 

5. Proxy — First Stockholders' Meeting 

6. Call and Waiver of Notice — First Meeting of Stock- 

holders 

7. Minutes of First Meeting of Directors 

8. Call and Waiver of Notice — First Meeting of Directors 



529 



Corporation Accounting 

Part I — Corporation Organization and Procedure 



CHAPTER I 

THE CORPORATE FORM 

§ i. Business Organization 

There are three general forms under which business 
activities are conducted, viz. : the single proprietorship, the 
partnership, and the corporation. In a single proprietor- 
ship the business is conducted by an individual on his own 
account and for his own benefit. In a partnership the busi- 
ness is owned by two or more individuals and is conducted 
on a co-operative basis for mutual benefit, the partners 
participating in its management and in its profits. Under 
the corporate form, business is conducted for the benefit 
of the stockholders of the corporation by a board of directors 
elected by them. The corporation owns the business, and 
the stockholders own the corporation ; so practically, though 
not technically, the stockholders own the business. 

§ 2. The Corporation 

A corporation is an association of individuals authorized 
by law to act as a whole under a corporate name and for 
some particular purpose or purposes. The word "company" 
is used synonymously with "corporation," with reference to 
business organizations. 



2 ORGANIZATION AND PROCEDURE 

The stock corporation is one whose authorized capital, 
or "capital stock," is divided into shares, each of which 
represents a definite interest in the corporation, and, 
ordinarily, entitles the owner of record to vote at corporate 
meetings and to participate both in corporate profits and in 
the assets of the corporation on its dissolution. The shares 
are called "stock," and their owners "stockholders." 

In many states, corporations formed to carry on mining, 
manufacturing, or mercantile enterprises are called "busi- 
ness corporations," to distinguish them from banking and 
insurance companies, which are termed "moneyed or finan- 
cial corporations," and from railroad, telegraph, telephone, 
ferry, and other like companies, which are called transporta- 
tion or public utility corporations. While moneyed and 
public utility corporations are usually subject to much 
stricter regulations than "business corporations," they enjoy 
more extensive powers. 

§ 3. Kinds of Corporations 

Generally speaking, there are two kinds of corporations 
— those conducted for profit, and those not conducted for 
profit. Corporations for profit include railroad, banking, 
insurance, public utility, manufacturing', and trading com- 
panies. Corporations not for profit are conducted for 
the benefit of the community, as municipalities, hospitals, 
churches, and charitable, social, and literary societies. Under 
the Pennsylvania statutes these latter are known as "cor- 
porations of the first class," while those conducted for profit 
are classified as "corporations of the second class." 

' Under the New York statutes the classification is as 
follows : 

1. Municipal corporations 

2. Stock corporations 

3. Non-stock corporations 



THE CORPORATE FORM 3 

Class 1 includes towns, counties, cities, villages, school 
districts, and other territorial divisions of the state which 
are established by law with powers of local government. 
Class 2 includes all corporations having a capital stock 
divided into shares, and which are conducted for profit. 
To Class 3 belong those which are conducted partly for the 
well-being of their members, as churches, cemeteries, co- 
operative organizations, boards of trade, and various 
benevolent institutions. 

§ 4. Public Utility Corporations 

Public utility corporations may be characterized as mixed 
or quasi-public, inasmuch as they operate for the convenience 
of the public as well as for profit to the management. They 
include the various transportation organizations, such as 
railroad, street-car, steamboat, and ferry companies; the 
telegraph and telephone companies ; and the gas and electric 
light companies. Such corporations are usually relieved 
to some extent from competition, because this, it is thought, 
will result in better service to the public. Their activities 
are regulated by the terms of their franchises and by the 
laws and ordinances of the municipalities in which they 
operate. In many states they are subject to the supervision 
of public utility or public service commissions. 

§ 5. Corporations Created by and Subject to State Laws 

Corporations are a creation of the law, that is, the laws 
of each state and of the District of Columbia prescribe the 
manner in which corporations in such state or District shall 
be formed, and they may be formed only in accordance 
therewith — unless, as is sometimes done, they are authorized 
by a special legislative act — and have only such legal 
existence, rights and powers as are given them by such laws. 

A corporation organized in one state (or in the District 



4 ORGANIZATION AND PROCEDURE 

of Columbia) may operate in other states, being known in 
its own state as a "domestic" corporation, and in other states 
as a "foreign" corporation. When a corporation carries on 
business in another state, it must comply with the laws of 
that state regulating "foreign" corporations. This is so 
because the rights and powers conferred by the laws of its 
own state exist for it in another state only as a matter of 
comity and subject to any regulations imposed on "foreign" 
corporations in that other state. 

To state this mere fully, "The corporations of one state 
may exercise any or all of their powers in another state, 
unless the latter state, by its statutes, decisions, or policy, 
forbids. This right of a corporation to act and contract 
in any state is due to the spirit of comity between the states. 
It is constitutional, however, for a state to refuse to allow 
that privilege, except as against corporations engaged in 
interstate commerce. 

"A state may require a foreign corporation to pay a 
license fee before doing business within its borders. A 
statute of a state prohibiting a foreign corporation from 
doing business in the state, if such corporation is connected 
with a trust, is constitutional."* 

As the conditions of incorporation and the powers and 
rights of corporations vary in the several states, the laws 
of the particular state must be consulted when the procedure 
for incorporation or the rights and powers of corporations 
in any particular state are to be known. It may also be 
noted that the laws with respect to the organization of public 
utility and moneyed corporations usually differ from those 
under which the ordinary business corporation is formed. 

§ 6. Procedure for Incorporation 

The state laws governing incorporation usually require 



Cook on Corporations, § 696. 



THE CORPORATE FORM 5 

that three or more persons — termed "incorporators" — must 
take part in forming a corporation, and that all or a part of 
these must be citizens of the United States. In some cases 
it is required that one or more must be citizens of the state 
in which the corporation is organized. 

In all the states general laws have been passed pre- 
scribing the method of incorporation, together with special 
provisions in the case of financial and public utility 
corporations. In most states there are special laws for 
educational, benevolent, and other corporations of similar 
character, as well as for corporations the nature of whose 
business calls for special provision. 

The general corporation laws usually provide that when 
due and proper application is made, with payment of the 
proper fees, the Secretary of State shall issue a charter in 
accordance with the terms of the application; or, where 
actual issuance of the charter is not required, the official 
acceptance and filing of the application authorize, ipso facto, 
the parties to organize as a corporation. In this case the 
application as approved becomes the charter of the corpora- 
tion. The persons authorized by the charter to organize, 
usually meet shortly after its issuance or filing, to elect 
directors, adopt by-laws, and make the necessary arrange- 
ments for the conduct of the corporate business. The pro- 
cedure for incorporation in the different states varies as to 
details, and in some few states is materially different from 
that described herein. In the great majority of states, 
however, it follows substantially the outline given. 

§ 7. Nature of the Corporation 

The corporation, when created, is for all practical pur- 
poses an individual, having power in its corporate name to 
carry on business, to make contracts, and to sue or be sued. 
It is an entity entirely separate and distinct from its 



6 ORGANIZATION AND PROCEDURE 

members, who may die or withdraw without affecting the 
corporate existence. It is subject to the general laws of 
the land as is an individual, and also to the special state 
laws made for the regulation of corporations. It must also 
conform strictly to the provisions of its charter. Its 
members, called stockholders, may adopt by-laws for its 
guidance ; but these are subordinate to the charter, and both 
are subordinate to the laws of the state. 

§ 8. The Charter 

The charter, or certificate of incorporation, is the 
fundamental law of the corporation, corresponding to the 
constitution of the state or nation. From it the corporation 
derives its existence and its powers. All the important 
features peculiar to a corporation, not secured by common 
law or necessarily incident to incorporation, should appear 
in its charter. These are usually the name, purposes, dura- 
tion, location, capitalization, and the details thereof; also, 
(in some states), the number of director s,, the names of 
those who are to act for the first year, ana. any special 
provisions permissible by law which the incorporators desire 
to make a permanent part of their organization. Temporary 
or less important details may be left for by-law or other 
regulation; but all matters of permanence or importance 
should, as far as possible, be set forth in the charter. 

§ 9. The By-Laws 

As already stated, a modern corporation is regulated, 
first, by the general laws under which it operates ; second, 
by the provisions of its charter; and third, by its by-laws. 
The by-laws are the quasi-permanent rules of corporate 
action, and are usually adopted at the first meeting of stock- 
holders. Occasionally, when specially authorized by the 
charter or by the laws of the state, the directors also have 
power to pass by-laws. 



7 



THE CORPORATE FORM y 

§ io. Management of the Corporation 

The corporation is managed by a board of directors 
elected by the stockholders, and subject to the provisions 
of the corporation's charter and by-laws. The number of 
directors is often prescribed within certain limits by the 
state laws — -as, not less than three nor more than thirteen 
— and, within these limits, is fixed by the charter or by-laws. 
The directors may act only in duly assembled meetings, and 
their decisions or instructions, usually expressed in the 
form of resolutions, are carried out by the officers of the 
company or by special agents appointed by the board of 
directors. 

The officers usually elected by the board are a presi- 
dent, one or more vice-presidents, secretary, treasurer, and 
sometimes a general manager as well. In the larger cor- 
porations assistants to these officers are also elected. The 
duties of the officers are fixed in a general way by custom, 
but are varied with the needs of the particular corporation. 
The by-laws should state clearly the specific duties of each 
officer. Occasionally, the statutes prescribe some of the 
official duties, as in New Jersey where the statutes provide 
that stock certificates must be signed by the president and 
treasurer of the corporation. 

The president of a corporation usually has charge of its 
general business activities and usually presides at all meet- 
ings of stockholders and directors. His powers and duties 
should be explicitly set forth in the by-laws. The vice- 
president performs the duties of the president in his absence. 
Any special duties assigned him should be stated in the 
by-laws. The secretary has charge of the corporate seal 
and must affix and attest it when necessary ; he usually takes 
charge of the corporate records and also of the issue and 
recording of stock. The treasurer has charge of the cor- 
porate finances. He signs all checks, sees to their proper 



8 ORGANIZATION AND PROCEDURE 

countersigning, and usually participates in the execution of 
all instruments pertaining to the financial transactions of 
the company. If a general manager is chosen by the board, 
he has charge of the general business, manufacturing, min- 
ing or whatever it may be, but he is not usually accounted 
an officer of the company. He is responsible to the directors 
and usually reports to them. 

The profits of the corporate business go to the stock- 
holders in the form of dividends and in proportion to their 
holdings of stock, at such times and in such amounts as the 
directors may decide. 

§ ii. Capital Stock 

The capital stock of a corporation is the amount of 
stock which the corporation is authorized to issue. Its 
amount is fixed by the charter and may not be changed 
except by amendment thereto. 

The amount of capital stock as fixed by the incorporators 
in the charter application may be based, (i) on the actual 
cash value of property to be taken over by the corporation ; 
(2) on the amount required for the development of the 
undertaking; (3) on the earning power of the corporate 
business; (4) on the speculative estimate of what these 
earning powers will be when the business is developed; or 
(5) on some combination of these factors. 

The statutory requirements as to issuance of capital 
stock differ in the various states; but some minimum is 
usually fixed by law as the smallest amount with which the 
corporation may begin business. Beyond any such required 
amount, the capital stock need only be issued when it 
is necessary to secure money or property for corporate 
purposes. 

In a conservative company, the capital stock issued at 
the time of organization will usually represent dollar for 



THE CORPORATE FORM g 

dollar the amount of cash or its equivalent put into the 
company; though naturally, thereafter the value of this 
stock — which depends upon the value of the property 
of the company — will vary as the corporate business is 
profitable or otherwise. In a speculative company, on the 
contrary, the capital stock is usually issued to a figure far 
in excess of the existing value of any property owned. 
Nevertheless, if the company is successful, the value of 
its assets may reach or even greatly exceed its original 
capitalization. 

§ 12. Shares of Stock 

The capital stock of a corporation is divided into equal 
parts called shares, the par value of which is usually $100, 
though mining corporations are commonly organized with 
shares of the par value of $i, and shares of the par value 
of $10 are frequently encountered. The object in issuing 
these small shares is to encourage small investors. In some 
states the par value of shares is restricted by law, but in 
most states it may be fixed at any figure desired. Occa- 
sionally shares are issued of the par value of $500 or even 
$1,000 each ; but, unless there is good reason to the contrary, 
a par value of $100 should be adhered to on account of its 
common use and its convenience. 

§ 13. Stockholders 

When a company is organized, its stock is supposed 
to be issued only for money, property, or something else 
of value contributed to the company; and the parties who 
receive the stock in exchange for these values, and those 
who thereafter acquire it, are the stockholders and compose 
the company. The number of stockholders in a corporation 
is rarely less than three. On the other hand', the stock- 
holders may be very numerous; thus the capital stock of 



IO ORGANIZATION AND PROCEDURE 

the Pennsylvania Railroad of the par value of $500,000,000, 
is owned by over 94,000 different stockholders; and the 
United States Steel Corporation, with its billion dollars of 
stock capital, has more than 125,000 stockholders. 

When all the stock of a corporation is controlled by one 
person, it is frequently termed a "one-man company" ; or 
if controlled by a few persons, a "close corporation." Such 
corporations are common. 

The stock of a corporation may be freely transferred by 
sale or otherwise. Such transfers do not, however, affect 
the existence of the corporation, which continues until 
terminated by, (1) statutory limitations ; (2) the limitations 
of the charter; (3) by consent of the stockholders; or (4) 
by action of creditors. The stockholders of a corporation 
are frequently in a continual state of change, old stock- 
holders going out and new ones taking their places. The 
ownership of the corporation is thus continually changing, 
but the corporation itself is the same. As stated by Black- 
stone, "A corporation is like to the river Thames, which is 
still the same river though the parts composing it are 
changing every instant." 

§ 14. Certificates of Stock 

The interest of a stockholder in a corporation is fixed 
by his holdings of its stock. This is evidenced by proper 
entries on the corporate books and also by certificates signed 
and sealed by the proper officials of the company, stating 
the number of shares owned by the individual to whom the 
certificates are issued. This individual is then the "owner 
of record." If he sells his stock he assigns his certificates 
to the buyer, who then surrenders these certificates to the 
corporation and receives a new certificate in his own name, 
proper entries being made on the corporate books (§ 61) 
to show the new owner of record. 



THE CORPORATE FORM H 

All stockholders are entitled to certificates for the stock 
owned by them, and can under proper conditions force the 
issue of such certificates if withheld. They are also entitled, 
within reasonable limits, to have their certificates broken 
up and reissued if they so desire. To curb too great activity 
in this direction, the corporate by-laws sometimes authorize 
the secretary to charge a small fee for each certificate issued 
by him. 

While the stock certificate is the convenient and cus- 
tomary evidence of stock ownership, its loss or destruction 
does not affect this ownership. Such loss may, it is true, be 
very embarrassing to the stockholder, just as would be the 
loss of a deed to real estate; but he is still the "owner of 
record" on the corporate books, and, though he cannot 
produce his certificate, is a stockholder of the company, 
entitled to receive his dividends and to be present and vote 
at stockholders' meetings. There is, however, one exception 
to this statement. When a purchaser receives a certificate 
assigned to him by the seller, and has not yet surrendered 
it in exchange for a new certificate issued to himself, its 
loss is far more serious. The seller, and not the purchaser, 
is then the owner of record, and the purchaser has no stock- 
holder's rights. His only recourse in case of loss under 
such circumstances is to appeal to the seller and to the cor- 
poration for assistance in establishing his true status. This 
is usually very difficult to establish. 

When a stockholder who has lost his certificate wishes 
to sell his stock, he must apply to the corporation for a 
reissue; for, speaking generally, no one would buy stock 
without a transfer of the certificate. The corporate by-laws 
almost always provide for such reissues, but require the 
party to whom a certificate is reissued to give bond to 
protect the corporation in case the original certificate should 
turn up to its injury. 



I2 ORGANIZATION AND PROCEDURE 

§ 15. Voting 

Each stockholder in a corporation is ordinarily entitled 
to vote at every stockholders' meeting, and has one vote for 
each share of stock standing in his name on the books. In 
an election of directors, for example, he may, for each share 
of stock owned by him, cast one vote for each director to 
be elected. Under the plan known as "cumulative voting," 
which the statutes of some states prescribe, and which in 
many other states may be obtained by charter or by-law 
provision, each share of stock still has its one vote for each 
director to be elected ; but, instead of casting this one vote 
for each candidate, the stockholder may "cumulate" all his 
votes upon one or more of the candidates, as he sees fit. 
Thus, if seven directors are to be elected, a stockholder 
owning one share of stock may, under the cumulative system, 
cast seven votes for one candidate, or three votes for one 
candidate and four for another ; or may distribute his seven 
votes among all the candidates as he sees fit. 

This method of voting is frequently important to the 
interests of minority stockholders. Under the ordinary plan 
they cannot possibly secure representation on the board of 
directors ; but with cumulative voting they can, if they hold 
a fair proportion of the stock, elect one or more directors. 
Having representation on the board, minority stockholders 
are enabled to secure information as to what is being done, 
and in a measure can protect their interests. (See § 41.) 

§ 16. Advantages of the Corporate Form 

The corporation as a form of business organization is 
superior to the partnership in several important respects. 
A partnership may be formed by word of mouth, by simple 
agreement, or it may exist by implication without the know- 
ledge of the partners. It is conducted with the same easy 
simplicity. Each member may act for and bind the partner- 



THE CORPORATE FORM 



13 



ship, and each member is liable for all the debts of the firm. 
In suits or other legal proceedings the individual members 
must be made parties, as the partnership cannot be sued 
under its firm name. 

A corporation, on the other hand, can be formed only 
by voluntary, deliberate intention of the parties, acting in 
accordance with statute laws. The management is vested 
in directors, who must act as a body and in accordance with 
the regulations of the charter and by-laws. After a stock- 
holder has once paid for his stock, he is not, in most states, 
liable further for the debts of the corporation. The corpora- 
tion itself may sue and be sued, and act generally under its 
own name as an individual. 

The more material advantages of the corporate over the 
partnership form of business organization may be sum- 
marized as follows : 

1. The limitation of stockholders' liabilities to the 

amount of their stock (in most states). 

2. The distinct legal entity of the corporation for all 

business purposes. 

3. The stability and permanence of the corporate or- 

ganization. 

4. Transferable shares of stock to represent owner- 

ship in the corporation. 

5. The management of the business by an elected board. 

of directors acting through officers and agents. 

6. The greater ease of securing capital under the 

corporate form because of its safety and its 
convenient method of representing ownership 
interests by stock. 

§ 17. Disadvantages of the Corporate Form 

While the corporation is the best form of business 
organization, generally speaking, it must not be supposed 



14 



ORGANIZATION AND PROCEDURE 



that it offers a cure for all business ills, or is a safeguard 
against all loss. Nor should it be supposed that the partner- 
ship form entails all the disadvantages to which business 
organizations are subject. There are many instances of 
partnership organizations of long standing under which 
large and successful businesses have been built up. 

Furthermore, while the corporate organization possesses 
many advantages, it has also its points of disadvantage, in 
the restrictions and burdens placed upon it by federal and 
state laws. These include limitations of activity, onerous 
taxation, the filing of many reports, and the publicity of 
corporate affairs. There is a strong tendency at present to 
extend some of these burdens to every form of business 
organization, but the corporate form is still distinctly handi- 
capped in this respect. 

§ 1 8. Summary of Taxes and Reports 

The following summary gives the more important taxes 
and reports required of corporations. These are in addition 
to the expenses of organization. Some of the taxes and 
reports mentioned are not peculiar to the corporation, but 
are given for the sake of completeness. 

Taxes : 

1. Organization taxes payable to the state for incor- 

poration. 

2. Annual franchise taxes paid to the state of incor- 

poration. 

3. Annual taxes on property. 

4. Federal income tax. 

5. Inheritance tax on stock (in most states). 

6. Stock transfer tax (in New York State). 

7. Taxes and license fees in each state — outside the 

home state — in which the corporation does busi- 
ness. 



THE CORPORATE FORM 



15 



Reports : 

1. Local tax reports. 

2. State tax reports. 

3. Federal tax reports. 

4. Annual and other reports required by the home 

state. 

5. Reports in each state — outside the home state — in 

which the corporation does business. 

§ 19. The Corporate Records 

The corporation is literally a creature of the law; and, 
while having no real personal existence, is, apart from its 
membership, a distinct legal entity, with many of the powers, 
rights, and privileges of a person. Since corporations are 
creatures of the law, their business must be conducted in 
compliance with the law ; and this, as well as their distinc- 
tive form and method of action, necessitates various instru- 
ments, records, and accounts not required by other forms 
of business organization. 

Thus, the proceedings at meetings, both of the stock- 
holders and of the board of directors, must be recorded in 
suitable minute books; stock certificates must be issued, 
cancelled and reissued, and these transactions must be 
recorded in stock certificate books and stock ledgers; the 
distribution of profits in the form of dividends requires a 
dividend book, and the issue of bonds requires a bond 
register. 

In addition to the special books and records incident to 
the corporate form, corporations also require, as business 
organizations, the usual accounting books and records. 



CHAPTER II 

KINDS OF STOCK 

§ 20. Capitalization 

The term "capitalization" ordinarily designates the 
total capital stock of a corporation, whether common or 
preferred, issued or unissued; but in economic discussions 
of finance, this term is frequently extended to include not 
only the authorized capital stock, but also bonds and 
similar corporate obligations. 

§ 21. Capital Stock and Actual Capital 

Capital stock has already been defined (§ n), but may 
be further described as the nominal or share capital of a 
corporation, as distinguished from its actual or property 
capital. These two are radically different. The first is 
fixed by the charter, while the second is the net value of 
the corporate assets. The sole effect of the charter pro- 
vision is to fix the amount of capital stock stated therein 
as the authorized maximum capital stock; and, while 
those in control of the new corporation may issue stock 
up to this amount, they may not exceed it. The property 
capital of a corporation on the other hand depends en- 
tirely upon the corporate business and management. If 
the corporation is prosperous and if dividends are not 
declared too freely, its capital will increase; otherwise it 
will stand still or diminish. 

The actual capital of a corporation is usually secured 
by the sale and issue of its capital stock. In most states 
this stock may be issued only for cash, property, or labor, 

16 



KINDS OF STOCK 



17 



equal at least to the nominal value of the issued stock. 
Many heavily capitalized incorporations of the past decade 
have, by various subterfuges, evaded actual compliance 
with this requirement, but the present tendency towards 
a stricter enforcement of the letter of the law is making 
such evasion increasingly difficult. 

When capital stock is issued at par for actual value, 
it follows that at that time the outstanding capital stock 
and the capital secured by its issue are equal. For ex- 
ample, if a corporation organizes with a capital stock of 
$50,000, all of which is issued for money or property, such 
money or property should represent a value of $50,000. 
The capital stock, however, remains a fixed quantity 
unless changed by formal charter amendment or by legis- 
lative enactment, while the actual capital changes with 
every variation of the corporate business. 

The working capital of a corporation is usually under- 
stood to include the actual, or property, capital and any 
money borrowed for business purposes. 

§22. Shares Without Par Value 

In 1912 a law was passed by the New York legislature 
granting the right, where special application is made 
therefor, to organize corporations with shares of unspeci- 
fied value. In such cases, each share of unvalued stock 
represents an equal interest in the corporation, and each 
certificate is required to have written or printed thereon 
the number of unvalued shares represented by it, as well 
as the entire number of such shares authorized. 

For example, if a corporation is organized under the 
unvalued share law, say with 500 shares, each share would 
represent a 1/500 interest in the corporate property and 
business; and its dollars and cents value could be de- 
termined after a valuation of the corporate property and 



l8 organization and procedure 

business, by dividing such value by 500. Thus, if the 
estimated value of capital and surplus owned by the cor- 
poration were $45,500, each share would, in the absence of 
other modifying conditions, be worth $91.* (See § 80.) 

§ 23. The Functions of Corporate Stock 

The most important function of corporate stock is to 
indicate the stockholders' interests in the corporation's 
business. It does not give the individual owner, or stock- 
holder, a right to any part of the corporate capital, except 
in case of liquidation; but it represents his proportionate 
part of any profits declared as dividends, and also shows 
to what representation he is entitled in any meetings of 
the stockholders. 

The division of capital stock into shares enables the 
interest of each stockholder to be indicated with accuracy, 
and also permits the transfer of this interest with an ease 
not found under any other system of business organization. 

§ 24. Nature of Stock 

From the standpoint of the accountant, the capital 
stock represents an indebtedness of the corporation, and 
in practice is entered as a liability on the corporate books 
and in all statements of corporate affairs. There is, how- 
ever, a clear distinction between the corporate liability on 
such things as notes, bonds, outstanding current indebted- 
ness, etc., and the technical liability for corporate stock. 
No interest is paid on capital stock, nor does the corpora- 
tion undertake to "pay it out"; and its value, whether 
face or actual, cannot be collected from the corporation 
by legal procedure. Therefore it is not, from any point 
of view, a legal corporate liability. It is only a technical 
liability, and does not affect the solvency of the corpora- 



*For further details see Conyngton's "Corporate Organization. 



KINDS OF STOCK 



19 



tion in any way. A corporation may be not only solvent 
but highly prosperous at a time when its actual assets are 
materially less than the face value of its outstanding 
stock. 

The capital stock of a corporation, or the assets ob- 
tained from its sale, are regarded in law as a trust fund 
pledged for the payment of the corporate debts. It is the 
foundation upon which the corporation's credit is based. 
Hence, both the common and the statute law are insistent 
that no dividends shall be declared which may impair the 
capital stock or endanger the solvency of the corporation. 

§ 25. Issued and Unissued Stock 

A corporation is under no obligation to issue the full 
amount of its authorized capital stock. On the contrary, 
after complying with any statutory requirements as to the 
minimum issue, it may do whatever seems best with the 
balance of its stock, allowing it to remain unissued or 
issuing it from time to time as may be necessary or 
expedient. All "issued stock" which has not in some way 
come back into the possession of the corporation, is 
termed "outstanding stock." 

Any stock that has not been issued is termed "unissued 
stock," or sometimes loosely and erroneously called 
"treasury stock." (See § 27.) Stock on its first issue by 
the corporation at its organization or later, is termed an 
"original issue" to distinguish it from stock issued on 
transfers of certificates, or from treasury stock, etc. 
Unissued stock has in itself no value, and can neither be 
voted nor participate in dividends. It is nothing more 
than a right to issue stock. 

§ 26. Full-Paid and Partly Paid Stock 

A corporation may sell its stock for any fair price, and 



20 ORGANIZATION AND PROCEDURE 

when this price is paid it has no further claim against the 
purchaser. If, however, this agreed price is less than the 
face value of the stock, such stock is not full-paid; and 
should the corporation later become insolvent, its creditors 
could force the original purchasers of the stock — if it were 
still in their hands — to pay the difference between the pur- 
chase price and the par value, or so much thereof as might 
be necessary to discharge the corporate obligations. Also, 
if stock is sold at its full face value payable in instalments, 
md these have not all been paid, the purchasers are liable 

the corporation or to its creditors for the balance due. 

If, however, a corporation has once received value in 
cash, property, or services, up to the face or par value of 
the stock issued therefor, such stock is termed full-paid. ) 
Then, barring the stock of institutions such as banks and 
trust companies, which are subject to special liabilities, the 
parties acquiring such stock are not further liable either to 
the corporation or to the corporate creditors, even though 
the former should fail and be unable to pay the amounts 
due its creditors. 

The question as to the full payment of stock frequently 
comes up in connection with its issue for property. If the 
value of property, or of other considerations given for stock, 
is not equal to the face value of the stock, the stock is not 
full-paid; and the corporate creditors may force payment 
of the deficiency, provided the stock is still in the hands of 
the original purchasers. 

This disquieting liability of partly paid stock is avoided 
in conservative corporations by issuing stock only in ex- 
change for its full par value in money, property, or labor; 
while in speculative corporations this object is attained by 
issuing the stock in exchange for more or less indeterminate 
property values, optimistically estimated to be equal to the 
face value of the stock. In former years, if there was any 









KINDS OF STOCK 21 

colorable payment for stock the courts were inclined to hold 
such stock full-paid; but now, owing to a change of senti- 
ment, the payment for stock is scrutinized carefully, and 
it must be of fairly equivalent value if liability is to be 
escaped. 

The liability on partly paid stock follows it into the 
hands of subsequent purchasers if they take the stock with 
knowledge of the conditions. However, if the stock is 
marked "full-paid" and is sold to an innocent purchaser for 
value, he is not further liable; nor, unless so provided by 
statute, does any liability remain with the seller. 

§ 27. Treasury Stock — Donated Stock 

The term "treasury stock" is often applied to unissued 
stock (§ 25) on the assumption that such stock is held in 
the treasury to be issued as required ; but the term is more 
appropriately used to designate outstanding stock which 
has, by purchase or otherwise, been acquired by the cor- 
poration and is held subject to disposal by the directors. 

In speculative corporations the entire capital stock is 
usually issued for property, and becomes, technically at 
least, "full-paid." This leaves the corporation without 
working capital or any means of securing it. To meet this 
condition, those to whom the stock is issued usually return 
an agreed part of this stock to the corporation — ostensibly 
as a donation — to be used for corporate purposes. This 
"donated stock" then becomes treasury stock and may be 
disposed of by the directors; and, if the payment was one 
which will stand legal scrutiny, it may be sold for less than 
its par value without subjecting the purchaser to the liabili- 
ties incident to partly paid stock. 

When the preferred stock of a corporation is sold, it is 
not uncommon to offer with it a bonus of common stock, 
which, to be attractive, must be "full-paid and non-assess- 



22 ORGANIZATION AND PROCEDURE 

able." The corporation must then have for this purpose a 
supply of full-paid common stock, and this supply usually 
consists of donated' stock as already described. In the 
ordinary corporation any full-paid stock is non-assessable. 
From the accounting standpoint, treasury stock is an 
asset of the corporation; although it differs from unissued 
stock only in the fact that it has once been issued and may 
be sold at less than par without involving the purchaser in 
liability. 

Stock so acquired, or acquired in any other way by a 
corporation, is usually held in the corporate name, though 
occasionally it is assigned to the treasurer or to a trustee. 
When it is to be held in the corporate name, the incoming 
certificates are cancelled, and the proper entries are made 
in the stock book to show that the stock has been trans- 
ferred to the corporation. It is not necessary, however, to 
issue new certificates so long as such stock is held in the 
treasury; but when sold, a new certificate is issued to the 
purchaser. 
J When its own stock is owned or held by the corporation, 
\this stock can neither vote nor draw dividends^ 

§ 28. Common and Preferred Stock 

When all the stock of a corporation is on an absolute 
equality, it is known as "common stock." No one stock- 
holder then has any rights over any other stockholder, and 
no one share of stock has any advantage over any other 
share. 

If, however, by proper procedure — usually by charter 
provision — some of the stock has been given rights as to 
dividends or assets not enjoyed by the other stock of the 
corporation, such stock is "preferred stock" as opposed to 
the remaining or "common stock." 

Preferred stock can be created by proper procedure in 



KINDS OF STOCK 



23 



any state of the Union. In some states it is created by 
charter provision; in others, through by-law enactment, or 
by direct and unanimous action of the stockholders. 

Speaking generally, preferred stock, in addition to its 
preferential rights, has all the rights and liabilities of com- 
mon stock. In other words, preferred stock loses none of 
the rights of common stock by reason of its preference, un- 
less such rights are expressly denied or restricted by the 
same authority that created its preferential rights. The 
entire trend of modern decisions involving preferred stock 
is to consider it as merely common stock with certain speci- 
fied additional privileges. y 

As already stated, stock is not a real but only a secondary 
liability of the corporation ; and unless otherwise expressly 
provided by statute, this is equally true of preferred stock 
and also of its preferred dividend. Such preferred dividend, 
or interest as it is sometimes incorrectly called, may be paid 
only out of profits, and is not a debt of the corporation until 
such profits have been earned and declared as dividends. 

As to the form of preferred stock, different classes may 
be created by the same corporation; one class may receive 
its dividends before the second, the second before the 
third, and both these may receive their dividends in any 
year before the common stock receives any dividend at all. 
These several classes may have different dividend rights, 
one receiving perhaps '5% and another 6%. Sometimes the 
amount of preferred dividend will be made contingent upon 
the amount of profits ; or the corporate income from particu- 
lar sources may be designated for payment of preferred 
dividends; or preferred stock may be given preference in 
the distribution of assets, or other special redemption fea- 
tures may be given, or it may be made convertible into 
common stock under prescribed conditions. (See § 30.) 

On the other hand, privileges or rights may be denied. 



24 ORGANIZATION AND PROCEDURE 

Thus, preferred stock may be denied the voting right, or 
else permitted to vote only under certain conditions. Divi- 
dends may be made non-cumulative, or such stock may be 
strictly limited to the preferential dividend. Preferred stock 
is held to be cumulative as to dividends unless it is specified 
that it shall be non-cumulative. J ( See § 29.) 

The usual reason for the issue of preferred stock is to 
provide a corporate security which can be sold more readily 
than the common stock. Its numerous possible variations, 
however, render it available for many different purposes. 
Thus, preferred stock is frequently issued to represent or 
pay for the actual property assets taken over by a new 
corporation, while common stock is issued to represent the 
good-will and other intangible assets. Or, when a partner- 
ship is incorporated, the excess investment of one partner 
is frequently represented by an issue of non-voting preferred 
stock, while the interest of the silent partner is conveniently 
cared for by the same means. In a consolidation of proper- 
ties, the interests of those concerned are equitably adjusted 
with the help of preferred stock. 

From the standpoint of the corporation, preferred stock 
is usually more desirable than bonds as a means of raising 
money. (It does not become a debt either as to dividends or 
principal. : , Unless the stock is redeemable, the principal is 
never due. The dividend is paid if profits exist for its pay- 
ment ; but, if the dividend is not paid in any year, it merely 
passes over to succeeding years if cumulative, or expires if 
non-cumulative. In any event, it is only a claim against 
profits. (Bonds, on the other hand, are an absolute obliga- 
tion both as to interest and principal J If the interest is not 
paid when due, it may be collected by legal proceedings, and 
frequently default in interest has the effect of maturing the 
bond and thereby rendering payment of both principal and 
interest imperative. In any event, the bond must be paid at 



KINDS OF STOCK 



25 



maturity under penalty of foreclosure, regardless of the 
condition of the corporate finances. 

§ 29. Dividends on Preferred Stock 

Dividends on preferred stock are either cumulative or 
non-cumulative. A cumulative dividend is one which, if not 
paid in any year, becomes a charge against the future cor- 
porate profits, and cumulates from year to year until paid. 
A non-cumulative dividend is one which is a first charge on 
any profits declared as dividends in that particular year, 
but, if no dividends are paid in that year, does not continue 
as a charge against the profits of following years. 

Where cumulative preferred stock exists, no dividends 
may be paid upon the common stock in any year until the 
preferred dividend for that year has been paid in full, 
together with any preferred dividends not paid in preceding 
years. Thus, if preferred stock bears a 6% cumulative 
dividend and no dividends are paid the first year, the com- 
mon stock cannot receive any dividends in the second year 
until the preferred stock has received a 12% dividend. If 
no dividends are paid in the second year, the preferred stock 
must receive a full 18% in the third year before the common 
stock may receive any dividend. 

It is obvious that a cumulative dividend is the more 
advantageous to the holder of preferred stock. In fact, 
non-cumulative preferred stock offers a temptation to the 
directors interested in the common stock, to pass dividends. 
Thus, if in any year sufficient profits exist from which the 
preferred dividends might be paid, but the directors refuse 
to declare dividends until the following year, the preferred 
dividend that might have been paid in the preceding year is 
lost absolutely to the preferred stockholders and its amount 
is saved to the corporation and may be declared as dividends 
the next year or at some later time at the discretion of the 



2 6 ORGANIZATION AND PROCEDURE 

directors. In these dividends from held-over profits, the 
preferred stock will participate only to the amount of its 
preferred dividend for that single year, the entire remainder 
of the dividends declared going to the common stock. 

When it is not specified that preferred stock shall be 
non-cumulative, it is held to be cumulative. 

§ 30. Convertible Stock 

Preferred stock, in order to make it more salable, is 
sometimes issued with the right of exchange for common 
stock, either at some specified time or within a specified 
period ; the terms of exchange being prescribed and usually 
appearing upon the face of the certificate. When preferred 
stock is non-participating, i.e., does not participate in profits 
beyond its preferential dividends, the convertible privilege 
adds materially to its attractiveness. Its preference as to 
dividends — and as to assets if this also belongs to it — gives 
it a safety and an assurance of annual returns that is not 
characteristic of common stock, while the convertible fea- 
ture gives an opportunity for an advantageous exchange for 
common stock if the corporation is so prosperous as to make 
this exchange desirable. In other words, the convertible 
stock offers the safety of preferred stock with the speculative 
possibilities of common stock. 

Sometimes this convertible feature exists between pre- 
ferred stock and bonds, as in the case of the United States 
Steel Corporation's 7% preferred stock, which is exchange- 
able for its 5% bonds. Any such exchange of stock for 
bonds or agreement for such exchange would usually be 
illegal. In effect it amounts to a corporation's borrowing 
money to buy its own stock. The exchange in the case of 
the United States Steel Corporation was made pursuant to 
provisions of a special enactment of the New Jersey legis- 
lature, and a large amount of preferred stock was replaced 



KINDS OF STOCK 



27 



by the bonds; the exchange converting - a 7% cumulative 
dividend into a 5% interest obligation. 

When preferred stock is convertible into common stock 
the corporation must make provision for the exchange, re- 
serving unissued stock, or purchasing its outstanding stock, 
or perhaps increasing its capital stock sufficiently to meet 
the requirements of the exchange. 

§ 31. Guaranteed Stock 

The term "guaranteed stock" is sometimes applied to 
preferred stock, and in such case usually designates a stock 
on which the dividends are guaranteed by the terms of the 
creating provision. There is no special virtue in the ex- 
pression or in the stock, as it is held ordinarily to be merely 
cumulative preferred stock. In spite of the statement of 
the creating provision that the dividend is guaranteed, such 
dividend can be paid out of profits only, and if no profits 
exist it is in no way a debt of the corporation. Any unpaid 
dividends merely pass over and cumulate as a charge against 
profits. 

The usual and better application of the term "guaranteed 
stock" is to stock which, as to dividend or principal, or both, 
has been actually guaranteed by some person, concern, or 
corporation other than the issuing corporation. Such stock 
is frequently created when a railroad takes over a subsidiary 
line, and guarantees either dividends or principal, or both, 
on the stock of the absorbed road. The dividend on the 
guaranteed stock then becomes an actual obligation of the 
guaranteeing company, which must be met when due just 
as in the case of any other interest or obligation. 

§ 32. Watered Stock 

"Watered stock" is merely a term used to designate any 
fictitiously paid-up stock ; that is, "stock which is issued as 



2 g ORGANIZATION AND PROCEDURE 

fully paid-up stock, when in fact the whole amount of the 
par value thereof has not been paid in. All stock which has 
been issued as paid-up stock, but the full par value of which 
has not been paid into the corporation in money or money's 
worth, is watered to the extent that the par value exceeds 
the value actually paid in. Watered stock is, accordingly, 
stock which purports to represent, but does not represent, in 
good faith, money paid into the treasury of the company, 
or money's worth actually contributed to the capital of the 
concern."* 

Watered stock arises from many conditions. In specula- 
tive corporations the stock is usually issued in exchange for 
property at enormously inflated values. A railroad, the 
issued stock of which is perhaps already in excess of the 
real value of its property, finds its dividends so uncom- 
fortably large as to attract public attention. Then, entirely 
regardless of the real values behind its stock, it will add a 
few millions to its capitalization and "cut a melon" for the 
benefit of its stockholders. Or, in a combination of produc- 
ing properties, preferred stock will be issued for the actual 
property values, and common stock be issued in addition up 
to the full measure of the earning power of the combina- 
tion. Thus, if a combination is formed of properties of 
the actual value of, say, $5,000,000, with estimated net 
profits of $600,000, the combination can pay a 6% divi- 
dend on a capitalization of $10,000,000. $5,000,000 face 
value of preferred stock is then issued for the properties, 
and an equal amount of common stock is issued against the 
good-will or earning power of the corporation. This is 
obviously watered stock. 

The expression "watered stock" is usually a term of 
reproach, but it is clear that under some circumstances such 
stock is justifiable. A going concern may be incorporated. 

*Cook on Corporations, § 28. 



KINDS OF STOCK 29 

The value of its property is $50,000; and its record, based 
on its earnings for a number of years, shows that it can pay 
dividends on a capitalization of $75,000. $25,000 of stock 
is therefore added to the property values, making the total 
capitalization of the concern $75,000. The $25,000 of stock 
issued in excess of the property value is technically watered 
stock, but no one will contend that it is not a justifiable and 
entirely proper issue. 

Watered stock that is to be condemned is found when 
capitalizations are increased far beyond the value of the 
property and beyond any earning power possessed by the 
corporation. 




MEETINGS; THE CORPORATE CALENDAR 

§ 33. The Annual Meeting 

The annual meeting of stockholders is their only regular 
meeting, i.e., one of which the date and the general nature 
are fixed by the by-laws, and at which any ordinary cor- 
porate business may be transacted without special mention 
in the notice of the meeting. All other stockholders' meet- 
ings are special meetings, assembled as the necessity arises 
for the transaction of special business which must be speci- 
fied in the notice of the meeting. 

Certain matters relating to, or to be done at, the annual 
meeting are prescribed by statute in many states ; and these 
statutory requirements are, together with other matters of 
procedure, usually set forth again in the by-laws of the com- 
pany. The more common matters of statutory and by-law 
regulation are : the place of meeting ; requirements as to its 
notice; the closing of the stock books; the preparation of 
a list of stockholders for use at the meeting; the formalities 
incident to the election of directors ; the reports to be pre- 
sented ; etc. 

Considerable laxity in the formalities of the annual 
meeting usually obtains in the smaller corporations. Not 
infrequently, where the stockholders of the corporation are 
few and all are officers of the corporation or are actively 
engaged in its business, the election of directors and even 
the annual meeting itself are dispensed with, the existing 
board of directors continuing in office until a new board is 
elected. Such laxness, while permissible where all the 

3° 



MEETINGS 3I 

stockholders concur, is to be deprecated. It is better that 
everything pertaining to corporate management should be 
carried out in strict accordance with the statutory, charter, 
and by-law requirements. 

§ 34. Time of Annual Meeting 

Corporations usually hold the annual stockholders' meet- 
ing shortly after the close of their fiscal year, which may 
or may not coincide with the calendar year. Usually, it is 
preferable to have the fiscal year close with the 31st of 
December, but conditions sometimes exist which make it 
advantageous to fix the date otherwise, as for instance at a 
time when business is slack and the stock of goods low. It 
is easier at such times to take inventories, close books, and 
prepare reports; also plans and policies for the succeeding 
year may be mapped out then without the serious interrup- 
tions to the immediate business activities that would occur 
if the fiscal year closed at a busier time. 

The annual meeting should not be held too closely after 
the end of the fiscal year. If the fiscal year ends December 
31, the annual meeting of stockholders might be held during 
the second or third week in January, so as to give ample 
time to close and audit the books, prepare financial state- 
ments, and compile the other data needed for the annual 
reports. 

The time of the annual meeting is prescribed in the 
by-laws. 

§ 35. Preliminary Arrangements for Annual Meeting 

In arranging for the annual meeting certain formalities, 
usually prescribed by the by-laws, must be observed, such 
as the due notification of stockholders, the closing of transfer 
books, etc. Some of these are statutory requirements. It 
is the secretary's duty to carry out most of these preliminary 



32 



ORGANIZATION AND PROCEDURE 



requirements of the meeting, and at the time of the meeting 
to see that everything needed is ready and accessible. 

§ 36. Annual Meeting — Closing Transfer Books 

The "closing" of the transfer books means nothing more 
than that the officer in charge of the books in which the 
transfers of stock are recorded refuses to make entries in 
them during the period they are closed. Stock may be 
bought and sold just as before, these transfers being 
evidenced by the properly assigned certificates, but such 
transfers cannot be recorded on the books of the corpora- 
tion, nor will new certificates be issued until the books are 
"opened" for transfers. 

The by-laws of most corporations, especially of those 
whose stocks are listed on exchanges, specify that the 
transfer books shall be closed a stated number of days before 
the annual meeting. Notice must be given by the secretary 
before the time of closing. All stockholders of record, i.e., 
those whose stock ownership is of record on the corpora- 
tion's books on the date of closing, are entitled to participate 
in and vote at the annual meeting. No other persons are so 
privileged, unless they hold proxies from stockholders of 
record. 

The object of closing the books is to give the secretary 
opportunity to give due notice of and make his preparations 
for the meeting; also to prevent any sudden or unforeseen 
transfer of stock with a view of controlling the election. In 
small corporations, where the stock is not active, the closing 
of the stock book before the annual meeting is not usual. < 
(See § 62.) 

§ 37. Annual Meeting — Stockholders* List; Notices; 
Proxies 

The statutes, and the by-laws as well, usually require 



MEETINGS 



33 



that an alphabetical list of stockholders be prepared for 
inspection and for use at the annual meeting. This list is 
prepared by the secretary after the transfer books are closed, 
and shows the persons who are stockholders of record and 
entitled to be present and vote at the meeting. Whether 
required or not, it should be on hand for reference at the 
meeting and should be open to the inspection of any stock- 
holder. 

Notice of the annual meeting should be given to all 
stockholders of record, either by letter or by advertisement 
in the newspapers. The by-laws usually prescribe the method 
of notification and the number of days prior to the meeting 
that notice shall be given, and, w r hen the notice is by letter, 
sometimes require that these letters shall be registered to 
insure safe delivery. The notice of meeting gives the dates 
for the closing and the opening of the transfer books. 
Copies of papers in which the advertisement appears should 
be carefully preserved by the secretary as a matter of 
record. 

The notices sent out to the stockholders usually contain 
printed proxy forms. Stockholders unable to be present in 
person are asked to sign and send in these proxies, which 
authorize some person — usually the secretary of the com- 
pany — to vote their shares. By this means a quorum — 
which is necessary for the transaction of business — is some- 
times secured when otherwise it could not be done. Also, 
at times these proxies enable the directors in office to retain 
their positions. (See Appendix, Form 5.) 

§ 38. Annual Meeting — Quorum 

A quorum at a stockholders' meeting, i.e., the number 
of shares of stock which must be represented in person or by 
proxy before business can be legally transacted, is ordinarily 
stated in and fixed by the by-laws. The usual requirement 



34 ORGANIZATION AND PROCEDURE 

is a majority of the outstanding stock, except at those meet- 
ings where some special action is to be taken or where for 
other reasons the amount or proportion of stock to con- 
stitute a quorum is fixed by the state statutes. Thus an 
amendment of the charter usually requires the action of 
more than a mere majority of the stock and in New York 
the statutes contain the very unusual provision that what- 
ever amount of stock is present at a properly assembled 
annual meeting constitutes a quorum, and may elect directors 
and transact any other business properly before the meeting. 
The number of persons present at a meeting is of no im- 
portance. One person may by ownership of stock or by 
proxy, or both, represent a controlling interest or even the 
entire stock; and such a meeting if properly conducted is 
legal, though in England and Canada it has been held that 
it takes at least two to hold a meeting. 

It is the secretary's duty, in calling the roll, to note 
whether or not a quorum is present and to report the fact 
to the president. No business can be transacted if a quorum 
is not present. If a quorum is present the fact should appear 
in the minutes. 

§ 39. Annual Meeting — Opening Formalities 

If the by-laws so provide, the president and secretary of 
the company act in their official capacities at the annual 
meeting; if not, the president must call the meeting to 
order and the stockholders at once elect a chairman. A 
secretary of the meeting is then either appointed by the 
chairman or by vote of the members present. After the 
chairman and secretary have been elected, the secretary, 
upon request of the chairman, calls the roll. 

After the roll call, a copy of the notice of the meeting 
as sent to the stockholders, or a copy of the newspaper 
containing the notice of the meeting, should be presented 



MEETINGS 35 

and read by the secretary, and a record of the same should 
be made in the minutes. 

The minutes of the previous annual meeting and usually 
of any intervening special meetings, are read by the secre- 
tary as the next order of business. If any changes in the 
minutes are found necessary, they must be made by means 
of motions duly seconded and passed. Such changes are 
usually made by interlining — the amended material being 
crossed out with red ink — or by marginal annotation; or, 
if the new matter is too lengthy for this, it is brought in at 
the end of the minutes, a note against the amended portion 
telling where the amendment may be found. 

§ 40. Annual Meeting — Election of Directors 

One of the most important matters coming before the 
annual meeting of stockholders is the election of new 
directors to serve for the ensuing year or term. If there 
are many directors, the term of office may extend over a 
number of years; and in this case the membership of the 
board is so arranged that a majority always holds over. 
For instance, in a board of fifteen directors it might be 
arranged for the terms of five to expire each year, the new 
directors being chosen to serve for the ensuing three years. 
The advantage of this method is found in the fact that a 
majority of the board will always consist of experienced 
directors. 

The election of directors is usually by ballot and is con- 
ducted by judges or inspectors of election. These judges 
or inspectors — generally two in number — may or may not 
be stockholders unless fixed by statute or other authority. 
In some states the statutes require that the inspectors be 
sworn to the faithful discharge of their duties before a 
notary or other person qualified to administer oaths. 

In the absence of statutory requirements, the election of 



36 ORGANIZATION AND PROCEDURE 

directors becomes a very simple matter. Nominations are 
usually made in advance, and either the secretary or tellers 
appointed for the purpose distribute, collect, and count the 
ballots. The result of the election is then announced and 
the successful candidates are formally declared elected. 

§ 41. Annual Meeting — Cumulative Voting 

Cumulative voting is a method of voting for directors 
which permits of such cumulation or concentration of votes 
that the holders of less than a majority of the stock may 
by proper combination elect one or more members of the 
board ; this under the ordinary method of voting being im- 
possible. Representation on the board is advantageous to 
the minority stockholders because it enables them to keep 
more fully informed as to the general affairs of the cor- 
poration, and more particularly as to any official action 
contemplated or taken by the board. If any such action 
seems to them injurious or illegal, their prompt knowledge 
of what is done gives them an opportunity to protest or to 
take any legal action that may be necessary. 

Cumulative voting is prescribed in some states by con- 
stitutional or statutory provision. In most of the states it 
may be secured, when desired, by charter or by-law 
provision. 

The cumulative method of voting is merely a modifica- 
tion of the usual plan of voting. Ordinarily every share 
standing in the name of a stockholder on the books of the 
corporation entitles him to one vote for each of as many 
directors as are to be elected. For instance, if a board of 
five directors is to be elected, the owner of one share may 
cast one vote for each of five candidates; in other words, 
he must divide his five votes among the five candidates, one 
to each. Under the cumulative method, he still has his five 
votes and may still divide these five votes among five can- 



MEETINGS 



37 



didates; but if he prefers, he may cast them all for one 
candidate, or divide them among two or more as he sees fit. 

To illustrate more fully, suppose a company with a 
board of five directors has ioo shares of stock outstanding", 
70 shares of which are held by parties who vote together 
and constitute a majority ; and 30 shares held by the minority 
stockholders who likewise vote together. Under the ordinary 
system of voting, the five candidates favored by the majority 
would each receive 70 votes and be elected, while the 
minority candidates could receive only 30 votes each and 
would fail. Under the cumulative system, however, the 
majority having 350 votes (70 X 5) could give five candi- 
dates 70 votes each; while the minority having 150 votes 
(30 X 5) at their disposal, could divide them between tw r o 
of their candidates and, if the majority voted in the manner 
suggested, would elect both of them. The majority would 
then have three members of the board, while the minority 
had two. 

In such a case, however, the majority would undoubtedly 
divide their 350 votes among four candidates, giving, say, 
two 87 votes and two 88 votes, which would unfailingly 
elect the four candidates; and the minority could elect but 
one member of the board, but could not in any way be 
prevented from electing this one member. 

The number of votes available under the cumulative 
system of voting is found by multiplying the number of 
shares by the number of directors to be elected. 

§ 42. Annual Meeting — Reports 

Reports of officers and committees as prescribed by the 
by-laws are presented at the annual meeting. The usual 
reports are the president's report of general conditions and 
the treasurer's report of financial conditions. Any com- 
mittees appointed by the stockholders at preceding meet- 



38 ORGANIZATION AND PROCEDURE 

ings will, as a matter of course, report at the annual meeting, 
and any other special reports covering matters of interest to 
the stockholders might also be read at this meeting. (See 
Part V, "Corporate Reports and Statements.") 

§ 43. Annual Meeting — Minutes 

When there is no further business to come before the 
meeting, it is adjourned. As soon as possible thereafter 
the secretary should write up his minutes while the details 
of the meeting are fresh in his mind. The minutes of the 
annual meeting, as of any other meeting, should be a com- 
plete and accurate statement of the procedure at the meet- 
ing. They should give the place and date of meeting; copy 
of the notice given; the name of the presiding and of the 
recording officer; the attendance, i.e., the amount of stock 
represented, and whether it constitutes a quorum; and 
should follow this with a brief but accurate statement of 
all business transacted at the meeting. When matters passed 
upon are of but little importance, the exact wording of the 
motion or resolution need not be brought into the minutes, 
but merely a statement of the fact that such a motion was 
made and carried or not carried, as the case may be. Where, 
however, the matter is of importance, it is usually advisable 
to embody in the minutes the exact wording of the motion 
or resolution, with the names of the parties who respectively 
introduced and seconded it. In matters of great importance 
the names of those voting for and against are usually 
recorded. 

Any important reports or other matters presented to the 
meeting should be noted, and if in writing should, when so 
ordered by the meeting, be "spread on the minutes," i.e., 
written out in full ; but otherwise it is quite sufficient merely 
to refer to the matter in the minutes. The secretary will, 
of course, in all cases preserve the reports or other papers. 



MEETINGS 39 

The minutes of iany meeting should be signed by the 
secretary and, if possible, by the presiding officer of the 
meeting. (For forms of minutes, see Appendix, Forms 
4 and 7.) 

§ 44. Directors' Meetings 

Meetings of directors, as in the case of stockholders, 
may be regular or special; regular meetings being usually 
monthly or quarterly. The notice of all meetings of 
directors, whether regular or special, is sent out by the 
secretary, the requirements for such notice being prescribed 
by the by-laws. 

The president of the company is the presiding officer 
at all board meetings unless otherwise specifically provided 
in the by-laws. The secretary is the recording officer. 

At a directors' meeting the quorum is fixed by the by- 
laws and is not infrequently less than a majority of the 
board. Absent members cannot be represented by proxy. 
In other words, if a member of the board is unable to be 
present, his vote is lost absolutely. This is because the 
stockholders have elected the directors to represent them, 
and these directors cannot pass this delegated power on to 
someone else. 

The general procedure at directors' meetings and the 
duties of the secretary are much the same as in the case of 
stockholders' meetings. The directors' minutes are some- 
times kept in the same book as the stockholders' minutes, but 
are frequently kept in a separate book. Where they are 
kept in the same book, they either follow seriatim as the 
different meetings are held, or one part of the book may 
be kept for the minutes of the stockholders' meetings and 
another part of the book for the minutes of the directors' 
meetings ; the matter usually being left to the secretary to 
decide. 



40 



ORGANIZATION AND PROCEDURE 



As soon as possible after the annual meeting of the stock- 
holders the directors usually meet for the election of officers, 
any newly elected directors participating in this meeting. 

§ 45. Special Meetings 

Special meetings, as distinguished from regular meet- 
ings, are meetings called to transact special business as 
required, and on such notice as is prescribed by the by-laws. 
Calls for special meetings are sent out by the secretary, and 
must be authorized as prescribed by the by-laws ; the authori- 
zation is usually, in the case of special meetings of stock- 
holders, by the board of directors, the president of the 
company, or a certain proportion of the stockholders; or 
for special meetings of the board, by the president or a 
certain number of the directors. The secretary's call usually 
states by what authority it is issued, and must announce the 
time and place of the meeting and the matters to be con- 
sidered at that meeting, and only such business may be 
transacted as is stated in the call. If other business should 
be transacted, any parties aggrieved thereby could, if the 
injury were real, have such action of the meeting annulled. 

The officers of a special meeting of stockholders and 
the general procedure thereat are much the same as in the 
case of a regular meeting. It may be noted, however, that 
as the legality of a special meeting depends largely upon the 
legality and proper form of the call and notice by which it 
is assembled, this call and notice is of much greater im- 
portance than the notice of a regular meeting; and the 
particulars in regard to it, together with the call and notice 
itself, should be entered in detail upon the minutes. 

§ 46. The Corporate Calendar 

The corporate calendar is in effect a tickler, containing 
memoranda of the important corporate events of the year, 



THE CORPORATE CALENDAR 4I 

arranged chronologically under the dates on which they 
occur. By consulting his calendar the secretary can deter- 
mine at any time what official details require attention on 
that or any future date. 

This is particularly important for the secretary, because 
on him devolves the responsibility for all notices and other 
preparation for meetings, and usually for the reports re- 
quired by state or local regulations and for other corporate 
matters requiring attention on fixed dates. The calendar 
may be arranged in order of dates on a convenient card, 
or noted on an ordinary calendar. In either case it should 
be hung in a conspicuous place for ready reference so that 
no important detail shall be overlooked. All details recorded 
on the calendar should, of course, be accurate. 

§ 47. Contents of Corporate Calendar 

The corporation calendar which follows is that of a New 
York corporation. As the matters to be attended to and the 
dates on which they come up vary with the different states 
and the different corporations, the calendar given can only 
be regarded as suggestive. The secretary must determine 
in each case what shall be recorded. The following matters, 
among others, and the dates on which they require atten- 
tion, should be carefully noted : 

Closing of transfer books 

Notice of annual meeting 

Preparation of alphabetical list of stockholders 

Annual meeting 

Notice of directors' meetings 

Directors' meetings 

Dividend dates 

Dates for paying bond interest 

Dates for making reports 

Dates for payment of taxes 



42 



ORGANIZATION AND PROCEDURE 



§ 48. Form of. Corporate Calendar 

Corporate Calendar 

OF THE 

Hudson River Packing Company 
of New York City 
1916 
January 

1 Franchise Tax Payable. Must be paid before January 15. 
(Based upon November report to State Comptroller. State- 
ment of amount of tax is sent to Company by State Comp- 
troller. Checks should be made payable to State Treasurer.) 
Federal Income Tax Report. Must be prepared and filed with 
Collector of District before March 1 (unless a date other than 
December 31 has been designated as the close of the fiscal 
year). 
3 Notify Stockholders of annual meeting to be held January 13. 
9 Notify Directors of meeting to be held January 14. (If direc- 
tors are elected at annual meeting, January 13, this notice will 
be vitiated as to all directors elected at such meeting and must 
be replaced by waiver of notice signed after election by all the 
newly elected directors.) 

13 Annual Meeting of stockholders at 3 p.m. 

14 Directors' Meeting at 4 p.m. (If directors were elected at 
annual meeting, waiver of notice should be signed by each new 
director.) 

15 Last Day for payment of State Franchise Tax. 

City Taxes. On this date unpaid city tax bills for personal 
taxes may be sent to the City Marshall for collection. 
17 Annual Report to State officials. Must be filed during Jan- 
uary and not later than January 31 with Secretary of State. 
(No filing fees. Blanks not supplied by officials. No penalty 
incurred for omission of the report unless such filing is re- 
quested by some stockholder or creditor of the company, and 
not then if the report is filed within thirty days after the 
request is made.) 
31 Last Day for filing annual report. 
March 

1 Last Day for filing Federal Income Tax Report. 
April 

9 Notify Directors of meeting to be held April 14. 
14 Directors' Meeting at 4 p.m. 



THE CORPORATE CALENDAR 43 

June 

1 Assessment of Federal Income Tax made. 
30 Last Day to pay Federal Income Tax. 

July 

9 Notify Directors of meeting to be held July 14. 
14 Directors' Meeting at 4 p.m. 
October 

2 ' City Assessments made for next year. Books open for correc- 

tion till November 10 inclusive. (If notice of assessment is 
not received in the early part of October, it should be sent 
for. Tax Commissioners usually send notice but are under no 
obligations to do so.) If assessment is unsatisfactory, sworn 
statement of correct value of assets must be prepared and 
filed. (See memo, for November 10.) 
4 City Taxes Payable for current year. (Statement of amount 
is usually sent to all corporations, but may be obtained from 
Assessor's office if copy is not received.) 
7 Notify Directors of meeting to be held October 13. 
13 Directors' Meeting at 4 p.m. 
November 

1 Comptroller's Report. Must be sent in on or before November 
15. (Blanks furnished by, and report made to, State Comp- 
troller. No filing fees. Penalty may be incurred by failure 
to make this report.) 
10 Statement and Application for revision of unsatisfactory city 
assessments, if not already filed, should be sent in to the 
Commissioner of Taxes and Assessments. Will not be re- 
ceived after November 30 save for real estate. (Blanks fur- 
nished by Commissioners. No filing fees.) 
30 Last Day for filing application for revision of city assess- 
ments, save on real estate, which may be revised at any time 
before payment of the tax. 
December 
22 Close Transfer Books for annual meeting of January 11, 1917. 
28 Publication Notice of Annual Meeting. Notice of meeting to 
be held January 11, 191 7, to be published in newspaper of 
New York County once each week for two successive weeks 
immediately preceding the annual meeting. 



Part II — Corporation Records and Accounts 



CHAPTER IV 

THE BOOKS AND RECORDS OF A 
CORPORATION 

§ 49. Books of Account 

The books of account for the ordinary corporation are 
similar to any other books of account, save as to the entries 
for distinctive corporate transactions. All the records and 
accounts peculiar to corporations are discussed in the present 
volume ; but for the character and use of the books relating 
to the ordinary commercial transactions the reader is re- 
ferred to any text on accounting. 

§ 50. Requirements 

The general books of a corporation differ little from 
those of a partnership or a single proprietorship conducting 
a similar line of business. In a corporation, however, there 
is, in addition to the financial books of account which record 
the transactions of ordinary business, another class of books, 
such as the minute book, stock book, dividend book, bond 
record, etc., for recording the activities peculiar to the cor- 
porate form. So necessary are these books that in many 
states the laws specify that certain of them, as the minute 
book, stock book, transfer book, etc., shall be kept. There 
are, therefore, in corporate bookkeeping, books and accounts 
not found in the records of the partnership or the single 
proprietorship, 

44 



BOOKS AND RECORDS 



45 



The distinctive books of record to be kept by a cor- 
poration are frequently set forth in its by-laws; although 
the books so enumerated would usually be kept as a matter 
of course by any well-managed corporation. 

Under these conditions the accountant, when devising an 
accounting system for a corporation, must first consult the 
statutes of the state to ascertain the legal requirements. 
Frequently the statutes not only prescribe certain books, but 
also specify where these books must be kept and what they 
must contain. Next, he must consult the by-laws of the 
corporation to ascertain their requirements as to books and 
records. Then, in addition to the books required by the 
laws and the corporation by-laws, he must add such other 
books as are needed to make a complete record of the finan- 
cial transactions of the corporation. 

§ 51. Inspection of Corporate Records 

Stockholders usually have, within limits, the right to 
examine the corporate books. This right extends much 
further as to official records, such as the stock ledger, etc., 
than as to the books of account. The stockholder's right to 
examine the latter is usually much restricted and in some 
states denied entirely. In the State of New York, for 
example, every corporation must keep a stock book in pre- 
scribed form, and this book must be open for inspection by 
the stockholders at least three hours daily. A penalty of 
$50 a day is imposed upon the corporation and upon the 
particular official for failure to comply with this require- 
ment. On the other hand, in this same state, the stock- 
holders' right to inspect the books of account is practically 
nil. A director, however, has the absolute right at any time 
to examine the books of account as well as the other cor- 
porate records, and this is true in practically all the states. 
This is part of his duties as director, 



4 6 CORPORATION RECORDS AND ACCOUNTS 

§ 52. Corporate Books of Record 

The distinctive corporate books include those in which 
are entered the official acts and resolutions of the directors 
and stockholders, and also those which contain detailed 
records of transactions pertaining to stock and bond issues, 
dividends, etc. The books of official record and the various 
stock books are usually kept by the secretary. The financial 
records relating to the sale of stock and bonds are usually 
under the supervision of the treasurer or are kept in the 
accounting department of the corporation, as are also the 
bond register, the dividend book, and other records which 
pertain more directly to the corporate finances. 

The usual corporate records include : 

Minute book (§53) 
Subscription records (§55) 
Instalment receipts (§§ 56, 57) 
Instalment book (§58) 
Stock certificate book ( § 60) 
Stock transfer book (§62) 
Register of transfers (§ 63) 
Stock ledger (§§65, 66) 
Dividend book (§67; Chapter IX) 
Bond register (§ 211; Chapter XVI) 

This number might be extended considerably, and sub- 
divisions made, especially in the case of large corporations. 
On the other hand, in the case of a small company some of 
the enumerated books would be omitted entirely. Indeed, 
in some companies, especially where the stock is held by a 
few individuals, the bookkeeping is as informal as in a 
partnership and but few of the distinctive corporate records 
are kept. It is, however, a wise precaution always to pro- 
vide for the proper record of all corporate transactions, no 
matter how small the corporation or how closely its stock 



BOOKS AND RECORDS 



47 



may be held. If this is not done, trouble may result ; "an 
ounce of prevention is worth a pound of cure." 

All the books enumerated above are auxiliary books, i.e., 
they are not used as posting mediums for the general books, 
but are subordinate thereto. 

A book known as a "combination record" is frequently 
used by the smaller corporations for the distinctive corporate 
records. This book is divided into parts, each of which 
takes the place of the more important of the distinctive cor- 
porate records mentioned above. If the forms included in 
it are good, the combination record will be found convenient 
for the ordinary small corporation. For the larger corpora- 
tion it is not suitable. 

§ 53. The Minute Book 

The minute book is used to record the proceedings at 
meetings of stockholders and directors. At the present time 
the usual form of minute book is a loose-leaf book, in which 
the minutes may be entered with a typewriter. Under this 
system, to guard against substitution of pages after the 
minutes are written up, each separate sheet should be signed 
by the secretary and, in the more expensive books, each 
sheet is specially numbered on watermarked paper, so that 
substitution is practically impossible. The- convenience of 
the loose-leaf minute book is obvious. 

In large corporations separate books are kept for the 
stockholders' and directors' minutes, but in the smaller cor- 
porations the minutes of all meetings are usually entered in 
one book. In such case, either the first part may be allotted 
to the meetings of stockholders and the latter part to the 
directors' meetings; or, as is done more frequently, the 
minutes of the various meetings may be entered one after 
the other as they occur. Under this arrangement, the first 
minutes to appear in the book would in most cases be those 



4 8 CORPORATION RECORDS AND ACCOUNTS 

of the first meeting of stockholders. These would be fol- 
lowed by the minutes of the first meeting of directors ; and 
thereafter the minutes would come in the order in which the 
different meetings were held. As the stockholders usually 
meet but once a year, and the directors much oftener, the 
minutes of the stockholders' meetings will then be separated 
by the more numerous minutes of the intervening directors' 
meetings. 

A copy of the charter of the corporation is often bound 
into the minute book, forming its first pages ; or, where this 
is not convenient, the charter is copied or pasted on the 
first pages of the minute book. Following the charter, a 
page or more is usually allowed for the entry of charter 
amendments. Next, beginning at the top of a right-hand 
page, the by-laws of the corporation are entered, the next 
few pages being left blank for new by-laws or any amend- 
ments too long to be interlined in the by-laws themselves. 
Finally, in the body of the book come the minutes of the 
various meetings. 

Minutes should be entered in the minute book as soon 
after the meeting as possible. The minutes of each meeting 
should begin at the top of a new page ; and the character of 
the meeting, i.e., whether a stockholders' or directors' meet- 
ing, and whether regular, special, or adjourned, should 
appear clearly in the heading. The date also should appear 
prominently. In the body of the minutes it should be stated 
how the meeting was called ; whether a quorum was present ; 
the names of the presiding and recording officers ; the time 
at which the meeting convened, etc. 

The minute book is one of the most important of the 
corporate records. The minutes are the officers' authority 
for many of their most important acts and from these same 
minutes the accountant gets his data for many of his most 
important entries. The necessity for complete, accurate 



BOOKS AND RECORDS 



49 



and properly evidenced minutes is obvious. Complete forms 
of minutes will be found in the Appendix (Forms 4 and 7). 
It is the duty of the secretary to keep the minutes of 
meetings. 

§ 54. Stock Subscriptions 

Subscriptions to stock are not binding upon the sub- 
scribers until accepted by the corporation, or by an author- 
ized representative or trustee of the corporation. Until such 
acceptance, there is no second party, and under such circum- 
stances a subscription is merely an offer to take stock, which 
can be rescinded or revoked by the subscriber at any time. 
Indeed, in some cases where subscriptions have been ac- 
cepted by an organization committee, it has been held that 
the subscriber might cancel his subscription at any time 
before the actual incorporation. Where, however, an or- 
ganization committee incurs some expense in connection 
with a proposed incorporation, it is doubtful whether sub- 
scribers who are fully aware of such expenditure can be 
relieved from their proportion of these expenses by a 
revocation of their subscriptions. 

In some states, all the capital stock must be subscribed 
before incorporation, and in some other states a specified 
proportion or amount must be subscribed before the corpora- 
tion may be organized. In such cases, subscriptions are 
usually not payable until the amount required by the statute 
has been subscribed. 

Full-paid stock is sometimes issued in exchange for 
services, for property, or for other considerations ; and it is 
not uncommon for subscriptions to be paid by promissory 
notes. In the State of New York, however, corporation 
officials are prohibited under heavy penalties from accepting 
notes in payment of stock subscriptions ; but such payments, 
if in good faith, would be valid in most states. 



So 



CORPORATION RECORDS AND ACCOUNTS 



§ 55. The Subscription Book or List 

Subscription books are seldom used in this country, 
except, perhaps, for collating and recording subscriptions 
after the subscribed lists have been turned in. The sub- 
scription list usually consists of a sheet or sheets of paper 
with suitable headings, on which subscribers to the stock of 
the company enter their subscriptions. At times, several 
different subscription lists are circulated simultaneously, and 
in this case the sheet form is, of course, employed. Sub- 
scription lists are seldom used in floating small corpora- 
tions; but for larger ones, or where subscriptions are 
solicited, they are necessary. 

The following forms illustrate some of the subscription 
blanks and agreements in ordinary use : 

Subscription List 



Davison Mercantile Company 

To Be Incorporated Under the Laws of New York 

Capital Stock $200,000 Shares $100 each 

We, the undersigned, hereby severally subscribe for and agree to 
take at their par value, the number of shares of the capital stock of 
the Davison Mercantile Company set opposite our respective signatures, 
said subscriptions to become due as soon as said Company is organized, 
and to be then payable in cash on demand of the Treasurer of the 
Company. 

New York City, New, York, 
April 5, 1916. 



Names 


Addresses 


Shares 


Amounts 


A. W. Davison 
George H. Brandon 
R. S. Cooke 
James Robinson 


235 West 80th St., New York 
846 York Ave., New York 
164 King St., Brooklyn, N. Y. 
Jersey City, N. J. 

Subscription List 


800 
300 
200 
200 


$80,000 
30,000 
20,000 
20,000 






BOOKS AND RECORDS 



51 



This form is satisfactory when only a few persons 
are concerned, and when the purposes of the company and 
conditions of subscription are well known. In this case 
subscriptions are not payable until the organization is com- 
pleted. At the same time, it is obvious that money to pay 
the incorporation fees must be raised before the charter can 
be secured. To meet this emergency the incorporators 
usually supply the initial funds required, this advance being 
applied on their subscriptions, or repaid from the corporate 
funds after organization. 

It may be noted that, while as a rule subscriptions to 
the stock of a new company prior to its organization require 
formal acceptance by the board of directors, when these 
latter are elected, to make such subscriptions binding and 
legally enforcible, the incorporators, by signing the charter 
application in which their subscriptions appear, make an 
irrevocable subscription. 

When subscriptions are payable on the instalment plan, 
the terms should be set forth in the subscription agreement. 
If the company is to issue both common and preferred stock, 
the subscription agreement should explain the conditions, 
unless separate blanks are provided for the different kinds 
of stock. 

It might be highly embarrassing to the incorporators to 
have subscriptions revoked before acceptance by the com- 
pany; and to avoid this possibility subscriptions may be 
made through a committee, or a trustee appointed for that 
purpose, as in the following subscription list. This pro- 
vides the necessary second party to the contract and makes 
the subscriptions binding before incorporation. Under such 
an agreement the new corporation, when organized, may 
bring suit to enforce payment of the subscription. In a way, 
however, the agreement is still one-sided, as no contract 
is binding on the newly organized corporation until accepted 



5 2 CORPORATION RECORDS AND ACCOUNTS 

by the corporation itself. This question, however, seldom 
arises, as the acceptance of subscriptions by the new cor- 
poration almost invariably follows. 

Subscription List 
Lancaster Cement Company 

To be Incorporated under the Laws of the 

State of Pennsylvania for the Manufacture 

of Portland Cement 

Capital Stock $1,000,000 Shares $100 each 

We, the undersigned, hereby agree with Thomas G. Williams as 
Trustee for the Lancaster Cement Company, to subscribe, and do 
hereby severally subscribe, for the number of shares of the capital 
stock of said Company set opposite our respective signatures, and 
agree to pay the par value thereof as follows : 

Ten per cent on demand of Thomas G. Williams as Trustee for 
said Company, such payment, or so much thereof as may be necessary, 
to be used for the preliminary and incorporating expenses of said 
Company; thirty per cent to the Treasurer of the Company so soon as 
said corporation is organized ; twenty-five per cent on demand of the 
Treasurer of the Company at any time after ninety days from the date 
of incorporation, and the remainder at such times and in such instal- 
ments as may be prescribed by the Board of Directors. 

Lancaster, Pa., 
May 2, 1916. 



Names 


Addresses 


Shares 


Amounts 


Ronald Logan 


627 Warren Ave., Lancaster 


1,000 


$100,000 


Samuel Bennett 


4425 Spruce St., Philadelphia 


1,000 


100,000 


A. W. Thompson 


Lancaster* Pa. 


1,000 


100,000 


J. H. Connor 


Harrisburg, Pa. 


1,000 


100,000 


O. K. Ferguson 


1420 Arch St., Philadelphia 


1,000 


100,000 



Subscription List, Trustee's 

The form illustrated on page 53 is brief and explicit, 
and is in general use. It may be conveniently inclosed with 
a prospectus or letter. It reserves to the incorporators 



1 



BOOKS AND RECORDS 53 

the right to reject or prorate subscriptions, thus enabling 
them to exclude undesirable subscribers, and to reject or 
prorate applications in case of over-subscription. It will 
be seen, in this form, that the names of the incorporators 
are brought in, but solely as a means of identifying more 
clearly the proposed corporation. If there is any danger of 
subscriptions being cancelled, trustees should be made parties 
to the agreement. 

The Rubberoid Tire Company 

479 Springfield Avenue 

Jersey City, N. J. 

To be Incorporated under the Laws of New Jersey for the 

Manufacture of Automobile Tires 

By Frank Alston, John Stone, and Howard Cole 

Capital Stock $500,000 Shares $10 each 

I hereby subscribe for shares of the capital stock of The 

Rubberoid Tire Company at the par value thereof, and agree to pay 
twenty-five per cent of such subscription on demand of the Treasurer 
so soon as said Company is incorporated, and twenty-five per cent on 
demand of the Treasurer of the Company at any time after ninety 
days from the incorporation of said Company; the remainder of said 
subscription to be paid at such times and in such amounts, not exceed- 
ing ten per cent of said subscriptions in any one month, as may be 
required by the Board of Directors of said Company. 
Dated 



The right is reserved to reject or prorate any or all subscriptions. 
Subscription Blank, Individual 

§ 56. Instalment Receipts 

When subscriptions are payable in instalments, stock 
certificates should not be issued until the full amount has 
been paid — a rule that is frequently violated. In some cor- 
porations special certificates closely resembling stock scrip 
are issued upon payment of a prescribed fractional part of 
the subscription, the certificate itself specifying the terms 



54 CORPORATION RECORDS AND ACCOUNTS 

of payment and providing space on the back thereof for 
the indorsement of future instalments. An examination of 
such a certificate and its indorsements will at any time 
indicate whether or not the stock is fully paid. 

Another method of evidencing payments for stock sold 
on the instalment plan is to give the subscriber a receipt for 
each instalment paid. Such receipts are known as "instal- 
ment receipts," or "instalment scrip." When the final instal- 
ment is paid, the receipts are returned to the company, and 
a stock certificate is issued for the total number of shares. 
The stockholder's account in the stockholders ledger will at 
any time show the status of his account and the amount of 
his stock holdings. 

No. i 15 Shares 

Denton Manufacturing Corporation 

Trustee's Certificate 
$150.00 

I hereby certify that Robert H. Craig, a subscriber for Fifteen Shares 
of the Capital Stock of the Denton Manufacturing Corporation, at 
its par value of One Hundred Dollars per share, has paid to me as 
Trustee for said Corporation, on account of said subscription and in 
accordance with its terms, the sum of One Hundred and Fifty Dollars. 

This receipt will, upon the organization of the said Denton Manu- 
facturing Corporation, be received and credited by the Treasurer 
thereof to its full amount as a payment upon said subscription. 

New York, Eldridge Lewis, 

April 15, 1916 Trustee 

Trustee's Receipt for Instalment Payment 

The instalment receipt book may consist of an ordinary 
receipt book from which the receipts are issued, though in 
large companies special books are usually printed to meet 
the requirements. The details of each receipt issued are 
recorded on its stub, from which the proper entries may be 
obtained for the stockholders ledger and also for the other 



BOOKS AND RECORDS 55 

books. The receipt is usually signed by the treasurer and 
perhaps by one other officer of the corporation. If it is 
desired to sell or transfer the instalment receipt at any time, 
an assignment may be written on the back ; or to meet such 
requirements a form of assignment is sometimes printed 
on the back of the receipt. 

Subscription payments before incorporation are made 
to a designated trustee or bank, by whom receipts are given 
for these payments. After incorporation they are made to 
the treasurer of the company. 



No. 5 $100 S Shares 

The Hudson Radiator Company 
30 Broad Street 
New York 

Received of Edward H. Williamson the sum of One Hundred 
Dollars, instalment payment No. 5, of Twenty Per Cent upon his 
subscription for Five Shares of the Capital Stock of the Hudson 
Radiator Company. 

New York City, J. H. Wilcox, 

March 14, 1916 Treasurer 

Treasurer's Receipt for Instalment Payment 



§ 57. Stock Scrip 

Stock scrip, or instalment scrip, is practically a receipt 
for instalments on account of stock subscriptions; but the 
one instrument is so arranged as to evidence all the pay- 
ments made. Stock scrip is usually prepared in more 
elaborate style than the ordinary instalment receipt, and in 
such form as to permit of its ready sale and transfer in the 
same manner as a stock certificate. It is signed by the presi- 
dent and treasurer, and may even bear the seal of the cor- 
poration. Subsequent instalments are indorsed on the back 
so that the scrip will exhibit at any time the payments made 
upon the holder's subscription. 



q6 



CORPORATION RECORDS AND ACCOUNTS 



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BOOKS AND RECORDS 



57 



Date 


Number of 
Instalment 


Amount 
Paid 


Signature of Treasurer 


May 3, 1916 
June 2, 1916 


2 
3 


$500.00 
150.00 


William H. Hansford 
William H. Hansford 



Instalment Form for Stock Scrip 

Instalment scrip, or receipts, may as a rule be sold or 
assigned at any time before they are called in for cancella- 
tion upon final payment. A general form of assignment is : 

For Value Received, I hereby sell, assign, and transfer unto John H. 
Wardell of New York City, my subscription to Fifteen Shares of the 
capital stock of the Lansford Manufacturing Corporation, together 
with the payments made thereon, all as evidenced by the within cer- 
tificate, and I do hereby authorize and instruct the proper officials of 
said Corporation, upon completion of the conditions of my said sub- 
scription, to issue said stock to the order of my said assignee. 

New York, December 4, 1916 

In the presence of Harold Thompson 

Samuel H. Kennard 

Assignment of Subscription and Instalments 

§ 58. The Instalment Book 

The instalment book is used when an instalment falls 
due, or when a call or assessment is decided upon by the 
board of directors. As will be seen by reference to the 
form which follows, it contains a list of the subscribers, the 
number of shares subscribed by each, and the amount of the 
instalment due, together with other information relating to 
the particular instalment. A new page or sheet is made out 
for each call or instalment. Instead of rewriting the names 
for each of these, the same list may be utilized by ruling up 
the page with groups of columns, each group adapted for 
one instalment ; or by the use of short pages after the first. 
This arrangement may cause some little inconvenience in 
case subscription rights and instalments are transferred, 
thereby necessitating changes of names, 



58 



CORPORATION RECORDS AND ACCOUNTS 







BOOKS AND RECORDS 



59 



The first column of the instalment book indicates the 
folio of the stockholders ledger, in which the subscribers' 
accounts are recorded, payments being posted from the 
instalment book to the credit of the respective accounts. The 
last column preceding the remarks column indicates the cash 
book folio to which the payments may be carried in total 
each day, these payments being credited to "Capital Stock,'' 
"Capital Stock Subscribed," or "Subscribers," according to 
the plan of opening entries used. Since instalments on sub- 
scriptions are not necessarily paid on their due date, it is 
advisable to carry the total of each day's receipts to the 
cash book, instead of waiting until all are paid. It is obvious 
that an account for "Subscribers" must be opened in the 
general ledger and charged with the aggregate amount of 
subscriptions due at that particular date. The same pro- 
cedure is required for each succeeding instalment. 

Occasionally, accounts are opened in the general ledger 
for individual subscribers, debiting them for their subscrip- 
tions and crediting them for their payments. If there are 
many subscribers, this plan is objectionable as encumbering 
the general ledger with a large number of stockholders' 
accounts which should by right be contained only in a stock- 
holders ledger (§§ 65, 66). 

The instalment book is compiled from the various sub- 
scription sheets or individual subscription blanks, and may 
be either a bound or loose-leaf book. Loose sheets serve 
the purpose nicely, since they can afterward be bound to- 
gether for filing. 

When subscribers to stock are few in number, the in- 
stalment book may be dispensed with ; and cash received on 
instalments may be entered directly in the cash book, and 
thence posted to the respective subscribers' accounts in the 
stockholders ledger and in total to the proper account in 
the general ledger. 



CHAPTER V 

THE BOOKS AND RECORDS OF A 
CORPORATION— (Continued) 

§ 59. Treasurer's Receipt for Subscription Payment 

When a subscription to stock is paid in full, it is 
customary to issue the subscriber a stock certificate. If the 
certificates are not ready for delivery, a receipt is given 
or a temporary certificate is issued. In any such case, the 
receipt or certificate must be turned in for cancellation 
before it is replaced with a permanent certificate. The 
following form of receipt is self-explanatory. It is ordinarily 
provided with a stub on which the details of the transactions 
are recorded. 



No. 50 $1,000 10 Shares 

Walton Publishing Company 
No. 225 Atlantic Avenue 
Brooklyn, N. Y. 

This Is to Certify that Harry H. Wilson has paid into the 
treasury of the Walton Publishing Company the sum of One 
Thousand Dollars, payment in full of his subscription for Ten 
Shares of its capital stock, duly executed certificates for which 
will, upon surrender of this receipt, be issued to his order as 
soon as said Certificates are ready for delivery. 

June 14, 1916 Frank J. Ardwald, 

Treasurer 

Treasurer's Receipt for Stock — Full Payment 

§ 60. Stock Certificate Book 

There is usually no legal requirement as to the size,! 
form, or even the wording of a stock certificate, but it must 

60 



BOOKS AND RECORDS 6 I 

show the corporate name, the state in which the corporation 
is organized, the capitalization, the total number of shares, 
the number of shares represented by the certificate, and 
whether such stock is full-paid. The certificates are num- 
bered and issued consecutively. Occasionally, ownership in 
a corporation will be evidenced by a simple certificate 
written on the typewriter or with pen and ink; and some- 
times, where the ownership is vested in a few persons, no 
certificates are issued, the stock books of the corporation 
forming the sole evidence of stock ownership. There is 
no legal objection to either of these plans, but they are 
obviously inconvenient and, for the more active corpora- 
tions, inadequate. Their economy is their chief recom- 
mendation. 

Separate certificates for the different classes of stock — 
common stock and preferred stock (as shown on pages 62, 
63) — are usually prepared, though it is not unusual for a 
small corporation to use the same general form of certificate 
for both. In this case, the word "Preferred" should be 
printed or stamped across the face of the preferred stock 
certificate. Such a certificate is imperfect, however, as the 
conditions under which preferred stock is issued should 
appear on the face of the certificate. 

Stock certificates are usually prepared in books of from 
100 to 500 certificates, with a stub for each certificate. 
Large corporations whose stockholders run up into the 
thousands must, of course, use a number of these stock 
certificate books. Separate books for common and pre- 
ferred stock are generally used, though in small companies 
both forms of certificates might be bound up in the one book. 

In case of transfer of stock, a new certificate should not 
be issued until the old certificate has been assigned and 
returned for cancellation. It is customary to paste the 
cancelled certificate to its original stub. 



62 



CORPORATION RECORDS AND ACCOUNTS 







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BOOKS AND RECORDS 63 



No. 15 Incorporated under the Laws of 10 Shares 

The State of New Jersey 

The Ventnor Stove Company 

Capital Stock $150,000 

Common Stock $100,000 Preferred Stock $50,000 

Full-Paid and Non-Assessable 

This Is to Certify, that George Bower is the owner of Ten Shares 
of the Preferred Stock of The Ventnor Stove Company, transferable 
only on the books of the Company by the said owner, in person or by 
duly authorized attorney, upon surrender of this certificate properly 
indorsed. 

The holder of the preferred stock represented by this certificate is 
entitled to an annual dividend of Six Per Cent (6%), payable out of 
the net profits of the Company before any dividend is paid upon the 
common stock. Should the net profits in any year be insufficient to 
pay said preferred dividend, either in whole or in part, any unpaid 
portion thereof shall become a charge against the net profits of the 
Company, and shall be paid in full out of said net profits before any 
dividends are paid upon the common stock. 

In event of the dissolution of the corporation from any cause, 
holders of preferred stock shall be paid from the assets to the par 
value of their stock and all arrearages of dividends before anything 
is paid to the holders of common stock. 

Said preferred stock is subject to redemption at the option of the 
Company at any time after Ten (10) Years from the first day of 
August, 1916, upon payment of One Hundred and Five Dollars ($105) 
per share and any accumulated dividends. 

Said preferred stock is not entitled to vote at stockholders' meetings 
of the Company, nor to participate in profits beyond its fixed, prefer- 
ential, cumulative, annual dividend of Six Per Cent. 

Witness the Seal of the Company and the signatures 

I C ° R seal ^ I of its duly authorized officers this second day of 

April, 1916. 

W. H. Wilkinson, Andrew W. Simpson, 

Treasurer President 

Shares, $100 each 



Stock Certificate, Preferred — (Stub omitted) 



64 CORPORATION RECORDS AND ACCOUNTS 

§ 61. Assignment of Stock Certificate 

When stock is to be transferred, the form of assign- 
ment which appears on the back of the certificate is signed 
by the transferor. It is then witnessed, and the certificate 
is usually handed to the new owner with the remaining 
blanks of the assignment unfilled. This is called an "assign- 
ment in blank," and the equitable title to the stock then 
vests in the holder of the certificate, as the name of an 
assignee is not filled in. But since no transfer has been 
made on the books of the corporation, the legal title remains 
in the former owner, who is still the owner of record, i.e., 
the owner as shown by the books of the corporation, and is 
therefore technically entitled to exercise all the rights of 
ownership. 

For Value Received, I hereby sell, assign and transfer unto 

of 

shares of the capital stock represented by the 

within certificate, and do hereby irrevocably constitute and appoint 

my Attorney to transfer the said 

stock on the books of the within-named Company, with full power of 
substitution in the premises. 

Joseph A. Longstreet 

Dated 19 . 

In presence of 



Assignment of Stock Certificate 



As long as the assignment on the certificate is left blank, 
the certificate may be passed from hand to hand without 
further formality as to assignment, and carries with it the 
equitable title to the stock it represents. Whenever the 
owner of the assigned certificate wishes to have the stock 
transferred to himself on the books of the corporation, i.e., 
put in his own name, he surrenders the certificate to the 
proper officer of the corporation — usually the secretary — 



BOOKS AND RECORDS 65 

with instructions as to reissue of the stock. He may, if he 
wishes, fill in the blanks in the assignment on the back of 
the certificate before surrendering it, but, if not, the blanks 
are filled in by the officer of the corporation, usually with 
his own name, and the attorney thus named in the assign- 
ment signs the transfer book — if one is kept. After the 
transfer has been recorded, a new certificate is issued to the 
new owner of record in accordance with his instructions. 

Frequently the holder of a certificate for a number of 
shares desires to transfer part of them, in which case his 
certificate is cancelled, a new one is made out to him for 
the number of shares still remaining to his credit, and a 
new certificate is also made out in favor of the transferee 
for the number of shares transferred. Sometimes, on the 
other hand, a stockholder desires to surrender a certificate 
and take in exchange two or more certificates, each for a 
smaller number of shares. This is called a "split." Or, 
sometimes several certificates of smaller amounts are sur- 
rendered in exchange for a single certificate. This also 
is known as a "split." 

In any of these cases, the certificates must be assigned 
as required by the conditions, and the proper records must 
be made in the transfer book, in the transfer register, and 
in the stock certificate book ; the cancelled certificates being 
pasted back on their own stubs at the time the new issue 
is made. In such cases, the stock assignment and the trans- 
fer book state that the new stock certificates are to be made 

out " to myself," or "to myself. .1 1. .shares, and to 

.,-. .shares," as the case may be 

Stock brokers often have continuing powers of attorney 
from those for whom they act, to transfer the stocks which 
come into the possession of these brokers in the course of 
business. On the other hand, large corporations generally 
appoint a special transfer agent or registrar, or both, to 



66 CORPORATION RECORDS AND ACCOUNTS 

look after the transfer and issue of stock certificates. A 
trust company is usually appointed to perform such duties. 
In such case the trust company countersigns all certificates 
issued, and supervises all other matters pertaining to the 
company's stock. 

§ 62. Stock Transfer Book 

The transfer book both authorizes and records the 
transfers of shares of stock of the corporation. It is, as to 
its wording, practically a duplication of the assignment 
ordinarily appearing on the back of every stock certificate. 
By many corporations the stock transfer book is not kept 
at all, since the duly executed assignment on the back of 
the certificate is regarded as sufficient authorization for the 
transfer of the assigned stock. 

The form of transfer book is usually about as follows : 

Ledger Folio 29 Transfer No. 326 

Goodwin Auto Car Company 

For Value Received, I hereby sell, assign, and transfer unto James 
W. Strong of Trenton, New Jersey, Fifty Shares of the Capital Stock 
of the above-named Company, now standing in my name on the Com- 
pany books and represented by surrendered Certificates Nos. 32, 37, 
and 44. 

Witness my hand and seal this 20th day of March, 1916. 

Thomas L. Borden [l.s.] 
By Henry Strong, 
Attorney 
New Certificate No. 106 
Issued to James W. Strong 
Ledger Folio No. 72 

Stock Transfer Book 

This form remains in the book and is evidence of 
authority of transfer. A record of all transfers is thus 
secured in one book, from which postings can be made and 
to which reference may be had at any time. The book 



BOOKS AND RECORDS 67 

usually contains from two to six transfer forms on each 
page, one below the other. Transfer books are frequently 
prepared with stubs, but these stubs are not necessary and 
may be left blank, as the transfers are not torn out. 

It is usual to close the transfer books a certain number 
of days before the annual meeting and before dividend days ; 
and during these periods stock cannot be transferred on 
the corporate records. This "closing of the transfer books' , 
merely amounts to a refusal of the officials in charge of the 
stock books to register transfers of stock for the stated 
number of days before the annual meeting or before the 
day appointed for the payment of dividends. The registered 
holder on the date when the transfer books are closed is 
therefore the person who is technically entitled to vote at 
the next stockholders' meeting or to participate in the 
dividends, even though he may have sold his stock mean- 
while. In any such case, the purchaser must look to the 
seller for any voting and dividend rights to which he is 
entitled because of the stock he purchased. (See § 36.) 

§ 63. Register of Transfers 

Sometimes another book — the register of transfers — is 
used in addition to the transfer record mentioned above. 
In such case this book serves as a convenient medium 
through which postings are made to the stock ledger. It 
is apparent, of course, that for every stock certificate trans- 
ferred, a debit must be made to the transferor and a credit 
to the transferee. 

A transfer register is required only in a large corpora- 
tion where many transfers are being made. In a small 
company where the stock is inactive, it is not necessary ; and 
postings may then be made from the transfer book or even 
from the stock certificate book. The following is a simple 
form of transfer register : 



68 



CORPORATION RECORDS AND ACCOUNTS 





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BOOKS AND RECORDS 69 

When a trust company acts as transfer agent, it is 
customary, as already stated, to have all certificates counter- 
signed by the transfer agent after they have been signed by 
the president and treasurer of the corporation which issues 
the stock. The form of countersignature is about as follows : 

Countersigned this 21st day of May, 191 6. 

Acme Trust Company of New York, 

Transfer Agent 

By Joseph H. Wilson, 
Auditor 

§ 64. Stock Register 

This book is used, in addition to the stock transfer book, 
for the registration of stock in cases where a registrar of 
stock is deemed necessary. The registrar is generally a 
bank or trust company. By having the issue of all stock 
supervised by the registrar, provision is made against 
irregular issues or overissues of certificates. The number 
of shares legally authorized to be issued is recorded on this 
register and should exactly equal the number of outstanding 
shares, plus any authorized shares not yet actually issued 
by the corporation. 

The rules of the New York Stock Exchange require 
every company whose shares are dealt in on the Exchange 
to have an independent registrar approved by the Exchange. 

Each new certificate issued, whether original or 
transfer, must be countersigned by the registrar, about as 
follows : 

Registered this . ... ... . day of . . . . 191. . 

Business Trust Company, Registrar 

By 



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CORPORATION RECORDS AND ACCOUNTS 





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BOOKS AND RECORDS 



71 



§ 65. Stock Book or Stock Ledger 

Some form of stock book, stock ledger, or share ledger 
— which are practically one and the same — must, in most 
states, be kept as a matter of statutory requirement. The 
stock ledger is primarily intended to show the stock acquired, 
any transferred, and the number of shares held at the time 
by each stockholder; but it is sometimes also used as a 
stockholders ledger to show payments made on account of 
subscriptions. This record is better kept in a separate 
stockholders ledger. It is obvious that the great majority 
of the stock ledger entries are transfers of stock in which 
the corporation has no financial interest; and the financial 
side of the comparatively few original entries in which it is 
interested should not be brought into this book. 

The stock ledger is the proper legal evidence (§§ 14, 
15) of the ownership of stock in a corporation. A stock 
certificate may be lost or destroyed, or may, in case of fraud 
or error, appear under a different name, but the stock book 
still assures to the "stockholder of record" his corporate 
rights and privileges. Stockholders have the right to inspect 
the stock book at reasonable times and to take extracts there- 
from if desired — a privilege which is manifestly liable to 
abuse if not properly restricted. 

The stock ledger records the name and address of each 
stockholder, the number of shares issued to him, any shares 
subsequently acquired, any shares transferred, and the bal- 
ance of shares remaining to his credit. It also shows the 
numbers of the certificates issued to the individual, the num- 
bers transferred, and the date of each transaction. Postings 
to the stock ledger are made from the subscription lists or 
blanks, or, in the absence of these in the case of original 
issues, from the stock certificate book. Transfers of stock 
are posted from the transfer book, transfer register, or stock 
certificate book, to the proper accounts in the stock ledger. 



72 CORPORATION RECORDS AND ACCOUNTS 

Preferred stock should be recorded in a separate stock 
book, or in its own section of the stock ledger; for it is 
obvious that the attempt to keep a record of both kinds of 
stock in one account would lead to confusion. 

A capital stock account is sometimes opened on the front 
page of the stock ledger, and debited with the aggregate 
amount of shares credited to the stockholders' accounts. 
This provides a double entry for the stock ledger, and 
enables the secretary to tell at any time the amount of stock 
outstanding. The stock ledger must, of course, agree as 
to totals with the capital stock account in the general ledger; 
or, if the stock is not all issued, with the capital stock account 
less all unissued stock. 

§ 66. Form of Stock Book or Stock Ledger 

There is no generally accepted form of stock book, or 
stock ledger, save in some few states (as New York) where 
its form is prescribed by law. In most of the states, there- 
fore, the secretary, or the accountant who has charge of the 
corporate accounting system, must decide its form and the 
method of entry. As a matter of fact, the accountant usually 
uses the form available at the stationery store or supply 
house with which he deals. 

It must always be kept in mind that the great object of 
the stock book is to show at any time the number of shares 
then standing in the stockholder's name — not the amounts 
paid on these shares, nor their par value, but the number 
of shares. In practice there are two methods of keeping 
this record. In some forms the stockholders' accounts are 
debited for stock purchased, and credited for stock sold; 
while in others the stockholders' accounts are credited when 
stock is purchased, and debited when it is sold. As the 
book is not part of the general accounting system, this 
variation is not a matter of importance so long as the details 



BOOKS AND RECORDS 



73 



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74 



CORPORATION RECORDS AND ACCOUNTS 



are vorrectly recorded and full information obtainable. The 
important point is for the record to show at a glance the 
balance of stock owned by each stockholder. 

In many cases the stockholders' accounts are ruled in the 
regular ledger form (as shown in the following form), 
which serves the purpose very well so long as the stock is 
fully paid and but few transfers are made. It is apparent, 
however, that in large companies, where transfers are 
numerous and the accounts of stockholders are constantly 
changing, a more complete record is desirable and even 
essential. 



Ralph Moore, 1439 Chestnut Street 



1916 

May 









1916 




To John Kane, 






May 


1 


20 shares 


$2,000 


00 






Balance, 70 






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May 


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40 shares, orig- 
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shares 



$5,000 
4,000 



$9,000 



$7,000 



00 



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00 



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Stock Ledger Account 



The stock book may be either bound, loose-leaf, or in 
card form. The forms of stock book which follow are in 
general use. 

The form shown may be readily changed to meet any 
special requirements. The leaves of the stock book are 
indexed, usually as a matter of convenience, but in some 
states to secure the alphabetical arrangement required by 
statute. The name and address of the stockholder with 
whom the particular account is kept appears at the head of 
the page as in an ordinary ledger. On the right-hand side 
of the page the party is credited with the stock he purchases 
or otherwise acquires ; and on the left-hand side he is debited 



BOOKS AND RECORDS 



75 





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76 CORPORATION RECORDS AND ACCOUNTS 

with any stock disposed of. The difference between the 
two sides shows at any time the amount of stock standing 
to his credit. 

Where a number of certificates are issued or cancelled 
in a single transaction, the entry will vary according to the 
conditions. If but a few certificate numbers are involved, 
they may usually be entered in small figures on the line in 
the proper column. If the numbers are too many to be 
entered in this way, two or more lines may be devoted to 
the transaction ; or the numbers may be noted at the bottom 
of the page, reference to these numbers being inserted in 
the column where the numbers ordinarily appear. How- 
ever, if the certificates cancelled or issued are in different 
names, one line must necessarily be given for each certificate. 

In New York a special form of stock book has been 
prescribed by the State Comptroller, acting under authority 
given him by law. The use of this form by New York 
corporations is obligatory. The forms on page 75 show, 
respectively, stock book prescribed for the use of brokers, 
and the stock book for corporations and transfer agents. 
The only new feature in these prescribed forms is the intro- 
duction of the special columns for the record of the stamp 
tax paid on transfers. 

§ 67. Dividend Book 

This book, used only when dividends are declared, con- 
tains a list of the stockholders who are entitled to participate 
in these dividends. It may be a bound book or simply loose 
sheets fastened together in a binder. After the stock books 
are closed for dividends, the registered holders of stock are 
recorded in this book in alphabetical order with all the 
necessary data against each name. 

Most corporations pay dividends by check, and many 
of them open special bank accounts for dividend purposes. 



BOOKS AND RECORDS 



77 






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yg CORPORATION RECORDS AND ACCOUNTS 

In this case, the total amount of the dividend to be paid 
out is deposited, and specially printed checks are drawn 
against it in favor of the stockholders for the dividends due. 
Since these checks specify the number and date of the divi- 
dend as well as the amount, they serve as vouchers and do 
not require an acknowledgment. A convenient form of 
dividend book is shown on page Jj. A form of dividend 
check and of the notice usually accompanying it are as 
follows : 



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Great Western Milling Company 

Portland, Oregon, June 5, 1916 No. 2438 

First National Bank 
of Portland, Oregon 

Pay to the order of 

James D. Moore $150.00 

One Hundred and Fifty 00/100 Dollars 

Countersigned: George H. Seymour, 

Stock Transfer Department, Treasurer 

John Fiske, Transfer Agent 

Dividend Check 



Great Western Milling Company 

Portland, Oregon 

June 5, 1916 
On May 6, 1916, the Directors declared quarterly dividend No. 10 
of One and One-half Per Cent upon the Preferred Stock of the Com- 
pany, payable this day to stockholders of record of May 16, 1916. 

In accordance with permanent order on file, enclosed please find 
check for above dividend on the Preferred Stock standing in your 
name. No acknowledgment is necessary. 

Kindly advise Charles E. Howe, Assistant Treasurer, 282 Wash- 
ington Street, Portland, Oregon, of any change in your address, giving 
your old address as well as the new. 

George H. Seymour, 

Treasurer 
Dividend check enclosed which please cash immediately. 
Notice Accompanying Dividend Check 



BOOKS AND RECORDS 



79 



§ 68. Dividend Order 

The larger corporations usually require their stock- 
holders to file orders giving definite instructions as to the 
payment of dividends. In most cases, dividends go to the 
stockholder of record, but a stockholder sometimes desires 
all or a part of the dividends upon his shares to be paid 
to some other person, or to a bank or trust company. A 
simple form of permanent dividend order frequently used 
is as follows : 



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(date here) 191 . . 

TREASURER 

Until this order is revoked in writing, please remit 
by mail, to the address as per margin, by check 
drawn to order of 

all dividends now due, or which may hereafter be 
declared, on shares of the Capital Stock of your 
Company now or hereafter standing in the name of 
witness : 
(Give name exactly as it appears on stock certificate) 

(Shareholder sign here) 



When the check is to be made payable to another person, have 
signature acknowledged before a notary public. 



CHAPTER VI 

DISTINCTIVE CORPORATE ACCOUNTS 

§ 69. Accounts Peculiar to Corporate Bookkeeping 

As has been stated, there are certain accounts peculiar 
to corporation accounting, or so rarely used outside of it, 
as to be distinctive. In the present chapter an analysis of 
the more important of these accounts is given in ledger 
form, with respective debits and credits appearing upon the 
proper side of each account. The journal entries through 
which the component parts of these accounts are brought 
upon the books are more fully discussed in following 
chapters. 

It should be noted that there is some diversity of opinion 
as to the accounts and entries that are best employed under 
the varying conditions that confront the corporation ac- 
countant. In any case, however, that plan seems best which 
will provide all of the information desired with the fewest 
possible repetitions. The present chapter is designed to cover 
all the accounts used in ordinary corporation accounting. 



§ 70. Capital Stock — Common 



Debit: 


Credit: 


With the par value of any 


With the par value of com- 


common shares retired. 


mon shares issued; or 




With the entire authorized 




value in case an Unissued Stock 




account is opened. 



When no preferred stock is issued — in which case but 

80 



DISTINCTIVE CORPORATE ACCOUNTS 8 1 

one kind of stock is issued — the foregoing account will be 
known simply as "Capital Stock," to which the above rules 
will apply without change. 

If an Unissued Stock account is not opened, the balance 
of the Capital Stock account represents the par value of 
common stock issued and outstanding. The stock ledger 
(§§ 65, 66) will also show the stock issued and outstand- 
ing, though ordinarily in shares and not in value. If the 
par value of the stock acquired by, and disposed of by the 
stockholders is also entered in the stock ledger, it may then 
be operated as a subsidiary record, the Capital Stock account 
becoming the controlling account. 

If an Unissued Stock account is opened, the balance of 
the Capital Stock account shows the total authorized stock, 
while the balance of the Unissued Stock account shows the 
amount still unissued. 

The Capital Stock accounts as above constituted show 
the amount of capital invested in the corporation by the 
stockholders (who are the real owners), very much as the 
Capital account of a partnership or sole proprietorship busi- 
ness shows the investment of the partners or proprietor. 
The accounts represent a nominal liability to creditors and 
to the stockholders, whose claims in the event of liquidation 
are considered only after all secured and unsecured creditors 
are satisfied. (See also Chapter VII, and §§ 144, 166.) 

§ 71. Capital Stock — Preferred 



Debit: 

With the par value of pre- 
ferred shares retired. 



Credit: 

With the par value of pre- 
ferred shares issued; or 

With the entire authorized 
value in case an Unissued Stock 
account is opened for preferred 
stock. 



82 



CORPORATION RECORDS AND ACCOUNTS 



The balance of this account represents the par value of 
preferred stock issued and outstanding, or of the total pre- 
ferred stock authorized, as the case may be. If the latter, 
the Unissued Stock — Preferred account will show the 
amount of preferred stock still unissued. 



§ 72. Capital Stock Authorized 



Debit: 

With the par value of shares 
disposed of, the corresponding 
credit being made to Capital 
Stock or to Capital Stock Sub- 
scribed. 



Credit : 

With the par value of shares 
authorized, the corresponding 
debit being made to Unissued 
Stock. 



This account when used shows a credit balance, indicat- 
ing the par value of stock authorized and not yet disposed 
of. It is sometimes opened in order to bring onto the books 
at the time of organization the entire amount of capital 
stock authorized by charter, regardless of whether or not 
any portion thereof has been disposed of. A separate ac- 
count should be opened for each class of stock, the corre- 
sponding debit to Unissued Stock account having a like 
classification. 

This is a favorite account with many bookkeepers and 
accountants, but so long as the Unissued Stock account in- 
dicates the amount of stock authorized and unsold, there 
seems little need of another account to exhibit the same 
information. The account has some merit, however, 
especially in affording a means of recording a neutral open- 
ing entry in the corporate books, and in exhibiting by 
ledger accounts the amounts of capital stock both sold and 
unsold. (See also §§ 97, 154.) 

Undoubtedly most accountants credit Capital Stock ac- 
count at the beginning for either the entire authorized 



DISTINCTIVE CORPORATE ACCOUNTS 



83 



capital stock or for the amount issued, and in such case 
the Capital Stock Authorized account would not be 
required. 



§ 73. Unissued Stock* 



Debit: 

With the par value of shares 
authorized, the offsetting credit 
being made to Capital Stock or 
to Capital Stock Authorized. 



Credit : 

With the par value of shares 
subscribed, the offsetting debit 
being made to Cash, to the 
proper property account, or to 
Subscriptions to Stock, as the 
case may be. 



This account, also known as Unsubscribed Stock, shows 
at any time the par value of shares of a corporation author- 
ized by charter but not yet subscribed and paid for. It 
shows a debit balance indicating the amount of stock still 
unissued, and is a negative to Capital Stock account, or 
to Capital Stock Authorized account in case the latter is 
opened. It must be borne in mind that instalment subscrip- 
tions, until they are fully paid, are carried in Capital Stock 
Subscribed account when that account is used, and do not 
show in the Capital Stock account until they are fully 
paid. 

Many accountants prefer to credit Capital Stock with 
only the par value of shares sold, in which case Unissued 
Stock account is not needed; and yet the account has a 
mission and is frequently used. On the balance sheet, how- 
ever, the unissued stock is preferably deducted from the 
authorized capital stock of the corporation and is not 
shown among the assets. ' (See also Chapter VII, and 
§§ 144, 166.) 



^Separate account for each class of stock unissued. 



g 4 CORPORATION RECORDS AND ACCOUNTS 

§ 74. Subscriptions to Stock* 



Debit: 

With the amount of subscrip- 
tions for capital stock. (At this 
time credit Capital Stock Sub- 
scribed, Unissued Stock, Treas- 
ury Stock, or Capital Stock ac- 
count, as the case may be. 



Credit : 

With all moneys received to 
cover subscriptions, or with the 
amount of each instalment due 
by subscribers when an Instal- 
ment account is maintained. 



Subscriptions to Stock account shows a debit balance, if 
any. Other names for this account are " Subscriptions," 
"Stock Subscriptions," and "Subscribers." The balance is 
an asset, and — save when an instalment account is opened — 
represents the amount due and unpaid on subscriptions for 
capital stock sold on the instalment plan. Debits to this 
account are offset by credits to Unissued Stock, Capital 
Stock Subscribed, or Treasury Stock account, as the case 
may be, or even to Capital Stock account. Sometimes it is 
opened to show the total amount of stock subscribed, even 
though payment of part or all of these subscriptions is to 
be made in full at once or in a short time. Subscriptions to 
treasury stock should preferably be opened under another 
heading, such as "Subscriptions to Treasury," to distinguish 
them from subscriptions to unissued stock. 

A subscription ledger should be kept as a subsidiary 
record to the Subscriptions to Stock account, and an account 
with each subscriber kept therein. The respective sub- 
scribers' accounts should be debited separately with the 
amounts of the subscriptions, and credited with the amounts 
of the payments which they make on account of the sub- 
scriptions. The results of a trial balance taken from this 
subsidiary ledger should agree with the balance of the Sub- 
scriptions to Stock account. (See also §§ 65, 66, 98-100, 

150-) 



*Separate account for each class of stock sold. 



DISTINCTIVE CORPORATE ACCOUNTS 85 

§ 75. Capital Stock Subscribed* 



Credit : 

With the par value of capital 
stock sold on the instalment or 
deferred payment plan. (At this 
time debit Subscriptions to 
Stock account.) 



Debit: 

With the par value of sub- 
scriptions which have been fully 
paid; at which time certificates 
of stock should be issued, cover- 
ing the number of shares sub- 
scribed and paid for. (At this 
time credit Capital Stock, Un- 
issued Stock, or Treasury Stock, 
as the case may be.) 



Sometimes subscriptions to stock — especially when on 
the instalment plan — fail after they are made. Stock certifi- 
cates should not be issued to subscribers until their respec- 
tive subscriptions have been paid in full. Capital Stock 
Subscribed account is therefore opened as a suspense ac- 
count in which subscriptions may be carried until they are 
paid in full. 

The balance of Capital Stock Subscribed account is a 
nominal liability, and represents the par value of each sub- 
scription until this subscription has been fully paid — not the 
amount due on these subscriptions, which is shown by Sub- 
scriptions to Stock account, but the total original par value 
of all unpaid subscriptions. When subscriptions are paid 
in full and certificates are issued, the Capital Stock Sub- 
scribed account is debited and Capital Stock account or Un- 
issued Stock account, or perhaps Treasury Stock account, is 
credited. Instead of opening this account, credits for stock 
subscribed on the instalment plan are frequently made 
directly to Capital Stock ; or it is omitted entirely in case a 
Capital Stock Authorized account is opened. 

The difference between the balance of Subscriptions to 
Stock account and the balance of this account should agree 



^Separate account for each class of stock subscribed. 



86 



CORPORATION RECORDS AND ACCOUNTS 



with the amount of cash received on account of subscrip- 
tions not fully paid. It will thus be seen that the balance 
of this account is an offset to the cash received on account 
of subscriptions not fully paid, and the remaining part of it 
is an offset against the balance of the Subscriptions to Stock 
account. (See also § 97.) 



§ 76. Instalment Account 



Debit: 

With the amount of instal- 
ments due by subscribers to 
shares of stock, the offsetting 
credit being to Subscriptions to 
Stock account, or Unissued 
Stock account. 



Credit : 

With payments on account of 
instalment subscriptions. 



This account is employed only when a considerable 
amount of stock has been subscribed — usually at the time 
the corporation is organized — and payment therefor is to 
be made in instalments in fixed amounts and at fixed times 
or on call. 

The account is opened afresh each time an instalment 
falls due. As each instalment is due a credit is made to 
Subscriptions to Stock and a debit to the particular instal- 
ment, as ''Instalment No. 1, 25%," "Instalment No. 2, 
25%," and so on, as the case may be. It shows a debit 
balance and remains open only until payments on the par- 
ticular instalment are made. Sometimes an account for 
"Subscribers" is opened in its place, and even an account 
in the name of each individual subscriber when these are 
not too numerous. The main object is to show the amounts 
subscribed by individuals, when the instalments are due 
and how much, and the amounts paid thereon. (See also 
§§ 98-100, 150, 152.) 



DISTINCTIVE CORPORATE ACCOUNTS 
§ 77. Treasury Stock 



87 



Debit : 

With the cost price of capital 
stock issued by a corporation 
and subsequently purchased by 
it. 

With the market value of 
shares donated to the treasury. 
If such stock has no positive 
market value, the transaction 
may be brought on the books by 
debiting the account with the 
par value of the shares donated, 
Donation account being credited. 



Credit : 

With the cost, or realized 
value, as the case may be, when 
shares debited to this account 
are disposed of; in other words, 
with the value at which the 
shares disposed of were charged 
to this account. If the price 
actually realized was more or 
less than that at which the 
stock was charged to this ac- 
count, the difference is credited 
or debited, as the case may be, 
to Donation account. 



The balance of this account is an asset, and, save in the 
case of donated stock, should represent the cost of treasury 
shares owned. (See also Chapter VIII, and §§ 2J, 155, 
166.) A separate account is sometimes opened for Donated 
Stock instead of Treasury Stock. This caption is a good 
one and easily understood. 

§ 78. Donation Account 



Debit: 

With the discount on donated 
stock sold below the value at 
which it was credited to this ac- 
count, and with any expense in 
connection with such sale. 

With the amount transferred 
at any time to Profit and Loss 
or to Surplus, as a result of 
stock donated. 



Credit : 

With the market or par value, 
as the case may be, of corpora- 
tion stock donated back to the 
company for resale to provide 
working funds, the offsetting 
debit being to Treasury Stock 
account. 

With the excess when do- 
nated stock is sold for more 
than the value at which it was 
credited to this account. 



88 CORPORATION RECORDS AND ACCOUNTS 

The balance of this account — also known as Working 
Capital Donated account — is always on the credit side and 
is a nominal liability, being an offset to Treasury Stock 
account. As stock is sold and profit made thereby, such 
profit, after deducting any expenses connected therewith, 
may be carried to Profit and Loss or to Surplus, or else be 
permitted to remain in Donation account until all of the 
donated stock is disposed of. It may then be closed off as 
suggested, or be permitted to stand as a credit balance to 
the account. It is a profit in any case, which should be kept 
as a permanent reserve and not paid out in dividends. In 
most cases, however, it eventually finds its way to Surplus 
account. (See also Chapter VIII, and §§ 27, 155, 166.) 

§ 79. Premium on Capital Stock 



Debit: 

With any transfer from this 
account by amortization or 
otherwise, to Profit and Loss, 
Surplus, or any other account. 



Credit: 

With the sale price of shares 
over and above the par value 
thereof. 



The credit balance of this account, sometimes called 
Capital Surplus, shows the amount of premium not yet 
written off. It is a profit to the corporation, but not one 
that should be used for the payment of dividends. The 
preferable way is to amortize it over a term of five or ten 
years by yearly or monthly credits to Profit and Loss. It 
is frequently carried as a permanent credit to Surplus 
account, especially in banks and other corporations where it 
is the practice to sell stock at a premium even at the time 
of organization. (See also §§ 103, 104.) 

If stock should be sold at a discount — a dubious pro- 
ceeding — an account called Stock Discount account may be 
opened. (See § 102.) 



DISTINCTIVE CORPORATE ACCOUNTS 89 

§ 80. Capital Stock Without Par Value 



Debit: 

With number of shares re- 
tired, at the price at which they 
were credited to this account 
when sold. 



Credit : 

With number of shares is- 
sued, at the sale price thereof. 
The corresponding debit is to 
Cash, to the proper property ac- 
count, or to Subscriptions to 
Stock, as the case may be. 

With subsequent sales of 
stock, at the sale price thereof. 



This account shows a credit balance and is a nominal 
liability representing the outstanding- capital stock of the 
corporation, provided there is no other kind of stock issued. 
There being no par value to the shares of stock, each share 
represents a fractional part of the net worth (composed of 
capital and surplus), in proportion to the total number of 
shares issued. The account is preferably credited with 
shares at the sale price regardless of prices which preceded ; 
though some advocate crediting the account at one price 
for all sales of stock, and crediting any amount received in 
excess thereof to Surplus or Stock Premium account. So 
long as this is the only class of stock issued, however, it 
matters little, so far as the book value of the shares is con- 
cerned, whether such premium be credited to Capital or to 
Surplus account ; and yet good practice favors the plan out- 
lined above, so that only earned profits are permitted to 
appear in the Surplus account. In any case, the share value 
as between the shares would be the same, each being a 
proportionate part of the net worth. 

Certificates of stock without par value simply indicate 
the undivided interest of the holder in the net worth of 
the corporation, according to the number of shares held. 
The balance sheet, in addition to stating the capital and 
surplus of the concern, should state (either in the body 



9 o 



CORPORATION RECORDS AND ACCOUNTS 



thereof or as a footnote thereto) the number of shares and 
perhaps the amount paid in on each of the shares outstand- 
ing, thus giving a ready means for determining the sale 
price and the book value of each unit of interest. 

If there be more than one class of stock outstanding, 
each class has its own status in relation to the entire capital 
stock. Preferred stock, after receiving its required divi- 
dend, may or may not be entitled to a share of any further 
distribution of profits; likewise, common stock both with 
and without par value may be issued, so that the status of 
each must be prescribed in the charter or the by-laws of the 
corporation. 

The following balance sheet indicates the distinction 
between 7% cumulative preferred stock and common stock 
without par value. 

Balance Sheet 

Condensed Balance Sheet of the Aetna Explosives Co., Inc., 

and Subsidiary Companies as of March 31, 1916 



Assets 




Liabilities 




Commercial Plants and 




Common Stock, no par 




Properties 


$2,970,522 


value; on which has 




Munition Plants and 




been paid in in as- 




Properties 


12,732,568 


sets* $T2C78.t:8fi 


Good-Will 


3,391,476 


Preferred Stock, par 
$100 




Securities Owned (book 




5,495,900 


values) 


143,436 


Capital Stock of Sub- 




Inventory, Notes, and 




s i d i a r y Companies 




Accounts Receivable 




Not Held by Aetna 




and Cash 


9,467.627 


Explosives Co., Inc.. 


380,667 


Special Deposits in Es- 




Funded Debt 


2,228,500 


crow and on Contract 




Current Liabilities 


5,386,824 


Advances 


3,395,i83 


Reserves and Advances 




Deferred Charges 


344,891 


on Contracts 


5,836,200 






Surplus 


539,031 




Total $ 




Total $32,445,702 


32,445,702 









'630,000 shares outstanding. 



DISTINCTIVE CORPORATE ACCOUNTS 



9 1 



It is advocated by some that when stock is issued with- 
out par value and there is only one class of stock, all out- 
standing, there is no necessity for making a division between 
Capital Stock and Surplus accounts, since the net profits 
each time, either before or after paying dividends, may be 
credited to the Capital account or to Net Worth, as the case 
may be. Whatever the name, the account selected under 
this plan bears the credit of capital paid in and is credited 
with the accumulation of profits, and debited with the dis- 
tribution of dividends. In that case, the capital account 
would change from year to year, or each time the books are 
closed, like the capital of a partnership. The net amount 
credited to Capital, divided by the total number of shares 
outstanding, would give the book value per share. It is 
preferable, however, in any case, to keep capital contribu- 
tions and surplus profits in separate accounts. In case the 
company issued both stock bearing a par value and stock 
without par value, care must be taken to show the portion 
of the profits belonging to each, though this division may 
or may not be made on the balance sheet. 

Impairment of capital by payment of excessive dividends 
must be carefully guarded against in a company where the 
stock has no par value. To prevent this, the amount per 
share paid in on the stock should be stated in the balance 
sheet and also in the ledger account itself, and profits be 
kept entirely separated from the capital paid in to the 
company. 

Non-stock corporations, as clubs, societies, hospitals, 
and other eleemosynary institutions, require a similar treat- 
ment as to capital contributed and profits earned. In these 
particular cases, however, as no stock is issued and no 
profits are distributed, there is usually no individual interest 
to be determined. Everything contributed is for the benefit 
of the institution as such, and should therefore be credited 



9 2 



CORPORATION RECORDS AND ACCOUNTS 



to Capital account. Any profits earned are likewise cred- 
ited to Capital account unless it is required that profits be 
set forth separately, while appropriations for any specific 
purpose are charged to the same account. There is no 
objection, however, to crediting- profits to a separate ac- 
count, such as Surplus or Unappropriated Profits, and then 
making transfers therefrom as needed either to increase the 
Capital account or to be used in other ways. (See § 22.) 



§81. Organization Expenses 



Debit: 

With the cost of all organiza- 
tion expenses, such as attorney's 
and accountant's fees, incor- 
porating expenses, promoters' 
services, underwriting expenses, 
etc. 



Credit: 

At the close of each month or 
fiscal period, as the case may be 
(depending on whether profits 
are ascertained monthly or only 
as often as a physical inventory 
is made), with the proper pro- 
portion of the debits to this ac- 
count, based upon the number of 
years over which the organiza- 
tion expenses are to be spread. 



The balance of this account is a deferred asset, and 
represents the proportion of organization expenses which 
are to be charged off over a given number of years to Profit 
and Loss. 

When the expenses, of organization amounts to more 
than, say, $500, it is hardly just to charge the entire amount 
to Profit and Loss at any one time. Such expenses are ab- 
solutely essential to the creation of the business, and the 
first year receives no more benefit from the expenditure 
than the fifth or sixth. It would therefore seem more 
equitable, so far as the statistical feature of bookkeeping is 
concerned, to write such expenses off over such a period of 
years as the management may elect. Probably five years 



DISTINCTIVE CORPORATE ACCOUNTS 



93 



would be sufficient for this purpose, in which case one-fifth 
of the total amount should be charged off each year. (See 
also §§ 154, 166.) 



§ 82. Surplus 



Debit: 

With the amount of dividends 
declared (in case such amount 
is not charged to Profit and 
Loss). 

With amounts reserved for 
sinking fund or other similar 
purposes (in case such amount 
is not charged to Profit and 
Loss). 

With any adjustment during 
the fiscal period which dimin- 
ishes the profits of a previous 
fiscal period. 

At the close of each fiscal 
period, with the net loss, if any, 
as shown by the Profit and Loss 
account. 



Credit : 

At the close of each fiscal 
period, with the net profit, if 
any, as shown by the Profit and 
Loss account. 

With any adjustments made 
during a fiscal period which 
should have been credited to 
some profit and loss account 
within a prior fiscal period; or 
which increase the profits of a 
prior fiscal period. 



The balance of this account at the close of a fiscal period 
represents the undivided profits. It should equal the dif- 
ference between the assets and liabilities, less the balance 
of the capital account, or accounts, as the case may be (i.e., 
Capital Stock, Profit and Loss, etc.). Surplus is an incre- 
ment of capital. When added to the balance of the capital 
account (or accounts), the sum total should represent the 
net worth of the business. Surplus account may even show 
a debit balance as a result of business depression, heavy 
losses, or payment of excessive dividends. In that case, 
such deficit represents a loss and the capital impairment of 
the company. 



94 



CORPORATION RECORDS AND ACCOUNTS 



Surplus account should represent the accumulation of 
undivided profits. It may include items other than realized 
profits, or it may be diminished by writing down assets 
below their real value. When this is done, the process is 
called "creating a secret reserve." When the credit side of 
the Surplus account is increased by figures which do not 
represent realized profits, the act is called "creating ficti- 
tious assets," or "watering the assets." It may also be 
credited with the amount paid for shares of stock in excess 
of the par value — a practice that is followed by many ne 
corporations such as banks and insurance companies. 

When an asset account is arbitrarily increased by a book 
entry, the credit usually finds its way to Surplus. When a 
business wishes to falsify the amount of its surplus, it 
usually does so by inflating some fixed asset account. Con- 
sequently, a report of an auditor is of no value unless he 
analyzes all debits and credits to the Surplus account from 
the beginning of business, and is willing to certify, with- 
out qualification, to the correctness of the balance of the 
Surplus account at the time his audit is made. (See also 
Chapter XXIII.) 



§ 83. Dividends 



Debit: 

With dividends paid, whether 
by cash or by an issue of stock 
or otherwise. 



Credit : 

With the amount of dividends 
declared by the board of di- 
rectors, the corresponding debit 
being made to Surplus account 
or to Undivided Profits account. 



The balance of this account represents dividends de- 
clared but not paid. It is advisable, when crediting this 
account, to number consecutively the dividends declared, as 
"Dividend No. 20," or "Dividend No. 20, payable August 1, 



DISTINCTIVE CORPORATE ACCOUNTS 



95 



19 1 6." A new account need not be opened each time a 
dividend is declared, though this is frequently done. (See 
also Chapters IX, X.) 



§ 84. Bonds 



Debit: 

With the par value of bonds 
retired. 



Credit : 

With the par value of bonds 
issued or assumed; or 

With the par value of bonds 
authorized for issue in case a 
corresponding account is opened 
for bonds not issued. 



The balance of this account represents the par value of 
bonds outstanding, and is a fixed liability. 

Unissued bonds need not be shown on the books, though 
there is no serious objection to doing so. It is well, how- 
ever, to show as a parenthetical note at the top of the Bonds 
account, the amount of the authorized issue. Accounts are 
opened for different kinds of bonds, and the tenor of the 
same clearly set forth in the title of these accounts, as "First 
Mortgage 5% Bonds of 1940," "Collateral Trust 5% 
Bonds," "First Mortgage Thirty- Year Sinking Fund Gold 
Bonds," etc. (See also Chapter XVII.) 



§ 85. Bond Premium 



Debit: 

With proportionate amounts 
written off monthly or yearly to 
Profit and Loss. 



Credit : 

With premium received on 
bonds sold above par. 



This account when it exists has a credit balance and 
shows the amount of bond premium not yet written off. It 
is a profit to the corporation but not one that should be used 



9 6 



CORPORATION RECORDS AND ACCOUNTS 



for the payment of dividends. The preferable way is to 
amortize it over a term of five or ten years by yearly or 
monthly credits to Profit and Loss. It might even be 
credited to Bond Discount account in case such an account 
exists on the books, especially in the case of industrial cor- 
porations not controlled by commission regulations. On 
the balance sheet the bond premium is usually carried among 
the deferred credit items on the liability side (See also 
Chapter XIX.) 

§ 86. Bond Discount 



Debit: 

With the discount allowed to 
bankers or underwriters on sale 
of the company's bonds. 

With other bond issue ex- 
penses incurred at the date of 
issue. 



Credit: 

With proportionate amounts 
written off either monthly or 
yearly to Profit and Loss ac- 
count. 



This account is a nominal deferred asset which is usually 
spread over a term of years, but, if the profits will justify it, 
may be all charged off during the first one or two years. It 
is the practice to charge all expenses incident to a bond issue 
to some account known as "Discount on Bonds," or "Bond 
Discount and Expense," and then to amortize the amount 
of this expense over a term of years or over the life of 
the bonds by yearly or monthly charges to Profit and 
Loss. (See also Chapter XIX, "Bond Discount and Prem- 
ium.") 

Bond discount and underwriting expenses are common 
to nearly all corporate bond issues, and, while it is per- 
missible to wipe such charge off during the life of the 
bonds, frequently a shorter period is taken as a basis of 
apportionment. 



DISTINCTIVE CORPORATE ACCOUNTS 
§ 87. Interest on Bonds 



97 



Debit: 

At the close of each month, or 
fiscal period if monthly profits 
are not ascertainable, with the 
amount of interest on bonds out- 
standing- applicable to the month 
or fiscal period just ended, as 
the case may be. The corre- 
sponding credit is to Accrued 
Interest on Bonds. 



Credit : 

Balance of this account con- 
stitutes a fixed revenue charge, 
and should be transferred to 
Profit and Loss account when 
the books are closed. 



The above applies with equal force to interest on out- 
standing mortgages. (See also Chapter XVIII.) 



§ 88. Accrued Interest on Bonds 



Debit: 

With payments of interest on 
bonds outstanding. 



Credit : 

At the close of each month, 
or fiscal period if monthly 
profits are not ascertainable, 
with the amount of interest ac- 
crued on outstanding bonds dur- 
ing the month or fiscal period 
just ended, as the case may be. 
The corresponding debit is to 
Interest on Bonds. 



The balance of this account is a liability, and represents 
interest accrued and not due. (See also Chapter XVIII.) 

The above applies with equal force to interest accrued 
on outstanding mortgages. 

Since in most large corporations it is the practice to 
require monthly profit and loss statements and balance 
sheets, accrued interest on bonds, mortgages, and other 
obligations must be set up in the general ledger accounts. 



gg CORPORATION RECORDS AND ACCOUNTS 

§ 8g. Sinking Fund 



Credit : 

With amounts of money dis- 
bursed for the purpose for 
which the special fund was 
created. 



Debit: 

With amount of moneys trans- 
ferred from the general funds 
of the business to a special 
fund for the specific purpose of 
meeting some fixed obligation 
at a particular time, as a bond 
issue, mortgage, or other debt. 

With the income derived from 
the investments of money set 
aside as a sinking fund. (At 
this time credit Sinking Fund 
Income account.) 



The balance of this account is an asset and should at any 
time represent the accumulated value of the sinking fund. 
The moneys thus taken are usually handed over to a trustee 
or board of trustees for safe-keeping and investment, the 
duties of such trustee in respect of such funds being set 
forth in the document creating the trust. (See also Chapter 
XXI.) 



§ 90. Sinking Fund Reserve 



Debit: 

With any deductions necessi- 
tated by loss or return of 
moneys credited. 

With transfers or appropria- 
tions therefrom for other pur- 
poses or for the benefit of some 
other reserve. 

With the balance when trans- 
ferred from this account to Sur- 
plus account or to some other 
permanent reserve. 



Credit: 

With the amount appropriated 
out of profits at designated 
periods for the creation of a 
sinking fund, the corresponding 
debit being made to Profit and 
Loss account or to Surplus. 

With all income derived from 
the deposit or investment of 
sinking fund moneys, as inter- 
est or dividends. 

With any profit on sales of 
securities belonging to the fund. 



DISTINCTIVE CORPORATE ACCOUNTS 



99 



This account shows a credit balance and represents a 
nominal liability. As the bonds for which the reserve was 
created mature and are paid off, this account should be 
transferred to Surplus or to some such permanent account 
as "Permanent Reserve' , account, or "Surplus Not for 
Dividend Purposes." 

A sinking fund reserve is seldom created nowadays, 
since its mission is taken care of by other means and by the 
maintenance of an adequate surplus (§ 82.) (See also 
Chapter XXI.) 

§ 91. Sinking Fund Income 



Debit: 

With the transfer of income, 
monthly or yearly, to Profit and 
Loss or to Sinking Fund Re- 
serve account. 



Credit : 

With any income in the shape 
of interest or dividends received 
from investment or deposit of 
sinking fund moneys, as re- 
ported by the sinking fund com- 
mittee or trustee in charge of 
the sinking fund. 



Income from sinking fund moneys, whether invested in 
securities or on deposit in the savings bank, is a profit to the 
corporation, and is usually credited to some representative 
account, as Sinking Fund Income, or Interest on Sinking 
Fund. This account is in turn closed into Profit and Loss, 
or Reserve for Sinking Fund in case the latter account is 
being carried. (See also Chapter XXI.) 



§ 92. Good-will 



Debit: 

With the cost of good-will 
acquired. 



Credit : 

With any portion of good- 
will subsequently written off. 



The balance of this account is an intangible fixed asset, 



IO o CORPORATION RECORDS AND ACCOUNTS 

which ordinarily remains unchanged. Of late years, how- 
ever, there has been a tendency to reduce the good-will from 
time to time by charges against Profit and Loss or Surplus. 
Good-will is a thing to be acquired, and not created 
arbitrarily by a book entry. But because of the wide- 
spread practice of overcapitalizing which has grown up in 
corporate organizations, the Good- Will account is almost 
invariably the difference between the true value of the assets 
taken over and the value placed upon them by the board of 
directors, or acquiesced in by them. In other words, a 
Good- Will account is commonly used in the book accounts 
as an offset to overcapitalization of the tangible assets. It 
is then the difference between the actual property value of 
the issued stock of a corporation and the par value of that 
stock and, where this is excessive, may well be written down 
as the value of the tangible assets increases. (See also 
§§ 157-159.) 

§ 93. Investment in Stocks and Bonds of Other Companies 



Vebit: 

With the cost value of stocks 
or bonds of other corporations. 



Credit : 

With the sale of stocks or 
bonds previously debited. 



The account shows a debit balance and is an asset. Such 
investments are usually made either for the purpose of in- 
vesting surplus funds, or with the object of securing a con- 
trolling interest in some competing concern. Where both 
stocks and bonds are owned, it is advisable to open two 
separate accounts, or even to open an account for each kind, 
stating the name of the company in connection therewith, 
as "Stock of American Bridge Company," "U. S. Steel 
Bonds," etc. (See also Chapter VIII.) 



Part III — Special Entries Relating to Transactions 
in Stock and Dividends 



CHAPTER VII 
STOCK OF ORIGINAL ISSUE 

§ 94. General Conditions 

In a partnership the investment consists of the cash or 
property contributed by the partners. In a corporation it 
consists of the proceeds of the stock sold. The interests of 
partners are represented by their capital accounts, while the 
interests of stockholders are represented by their stock 
holdings, or on the corporate books by their respective 
accounts in the stock ledger. In a partnership the profits 
are usually credited to the proprietors' accounts and remain 
there until drawn out according to agreement. The profits 
of a corporation are credited once a year or oftener either to 
Surplus account or to Undivided Profits account, until, when 
declared as dividends, they are credited to Dividend account, 
and are paid out as soon as the dividend is due. 

The opening entries on the books of a corporation are 
determined by the conditions under which the stock is sold, 
and it is important that such entries should be complete and 
clear. They sometimes fail in this and are obscure because 
of insufficient data in the journal entries. This may be due 
to carelessness or ignorance, or occasionally to the desire 
of the incorporators to withhold certain facts regarding the 

101 



IG 2 SPECIAL ENTRIES 

company's organization that might be used later to their 
disadvantage. As to this, it can only be repeated that all 
entries should tell the truth clearly and unmistakably; and 
it may be added that, no matter how cunningly such entries 
are devised, a competent accountant can always discover 
their true meaning. 

Entries covering the various conditions of stock issues, 
as given in the present and the succeeding chapter, include 
the following: 

i. Entries for original issues of stock sold under differ- t 
ent conditions. 

2. Entries relating to stock donated to the treasury. 

3. Entries where an original issue of stock or treasury 

stock is given in direct payment of corporate 
obligations. 

4. Entries relating to the purchase and sale by the cor- 

poration of its own stock (not an original issue), 
and of other stocks. 

The entries given are intended merely to show the debits 
and credits directly resulting from the transactions con- 
sidered. In practice all cash entries are, of course, recorded 
in the cash book and are thence posted to the proper ledger 
accounts; but throughout the present volume, for the sake 
of clearness the entire transaction is, in each case, expressed 
in the form of a journal entry regardless of whether it 
belongs in the cash book or journal, or should be divided 
between the two books. In this connection reference to the 
rules laid down in the preceding chapter should be made. 

Many transactions encountered in opening corporate 
books admit of different treatment; and accordingly, in the 
following chapters it will be found that transactions identical 
in nature have been variously handled for purposes of 
exemplifying the different methods. 



STOCK OF ORIGINAL ISSUE IQ 3 

§ 95. Pro Forma Statement 

The Davison Mercantile Company has been organized 
with a capital stock of $200,000, divided into 2,000 shares 
of $100 each. 1,500 shares were subscribed for at par,* 
as follows : 

A. W. Davison. . . . ,. . 800 shares 

George H. Brandon. . . ... ... 300 " 

R. S. Cooke. . 200 " 

James Robinson 200 " 

All subscriptions have been paid in cash, excepting that 
of Davison, who turned over merchandise on his subscrip- 
tion to the value of $50,000 and paid the balance, $30,000, 
in cash. The total cash paid into the treasury of the com- 
pany is therefore $100,000. 

Two plans of opening the books of the Davison Mer- 
cantile Company are shown on the following pages. It is 
to be noticed that, in opening the journal of a new corpora- 
tion under any plan, the first entry should be a reasonably 
complete statement of the conditions under which the cor- 
poration is organized, somewhat similar to that given in 
the two preceding paragraphs. This is desirable in order 
to bring together into one clear, concise statement, all the 
details of the incorporation required by the accountant, and 
to relieve the opening entries of the detail otherwise neces- 
sary. Without this pro forma entry as a basis, the explana- 
tion of the following journal entries would be too meager. 

§ 96. Opening Entries— Stock Full-Paid (Plan 1) 

Cash $100,000 

Merchandise 50,000 

To Capital Stock $150,000 

Cash and property received by the Company 

*See subscription list (§ 55). 



I04 SPECIAL ENTRIES 

in full payment of subscriptions to its 
capital stock, as follows : 

A. W. Davison 800 shares 

George H. Brandon 300 " 

R. S. Cooke 200 " 

James Robinson 200 " 

Merchandise to amount of $50,000 was 
turned in by A. W. Davison as part pay- 
ment of his subscription, the balance being 
paid in cash. 



This opening entry is the simplest possible. Incoming 
cash and merchandise receive their proper debits, and capital 
stock is credited with the amount subscribed and paid for. 
In this case the cash item is entered in both the journal and 
the cash book, as is not uncommon in opening entries. To 
meet this condition, the general ledger item in the cash 
book entry is checked to indicate that it is not to be posted, 
and the cash item in the journal entry is likewise checked 
and not posted. 

§97. Opening Entries— Stock Full-Paid (Plan 2) 

As capital stock is credited with the amount of stock 
sold, the amount unissued may be readily determined under 
the entries of Plan 1, by subtracting the amount sold from 
the total capital stock. If it is thought preferable to have 
an account which shows the amount of stock unissued, 
Capital Stock is credited with the entire amount authorized, 
and the part not issued is debited to a separate account called 
"Unsubscribed" or "Unissued" Stock. Whether this is 
worth while is for the accountant to determine. Under this 
plan the opening entries of the Davison Mercantile Company 
would be as given below. Where there is more than one 
kind of stock issued, it is necessary, of course, to open an 
account for each. 



STOCK OF ORIGINAL ISSUE 



105 



First Entry 

Subscribed Stock $150,000 

Unissued Stock 50,000 

To Capital Stock $200,000 

The Davison Mercantile Company is or- 
ganized with a capital stock of $200,000, 

divided into 2,000 shares of $100 each. 

1,500 shares were subscribed for at par 

by the incorporators as follows : 

A. W. Davison 800 shares 

George H. Brandon 300 " 

R. S. Cooke 200 " 

James Robinson 200 " 

Unissued Stock is debited, as shown, with the entire 
balance of the unsubscribed stock, which remains there until 
sold or otherwise disposed of. 

Frequently the entire authorized capital stock is first 
debited to Unissued Stock account and credited to Capital 
Stock Authorized account, thereby establishing an opening 
entry on the books. In that case, the above entry would be 
modified by a debit to Subscribed Stock, or Subscriptions, , 
and a credit to Unissued Stock, for $150,000; and when 
this amount is entirely paid, another entry would be made 
transferring the $150,000 from Capital Stock Authorized 
to Capital Stock. This plan is in common use and is both 
simple and adequate for opening corporate entries. 

Second Entry 

Cash $100,000 

To Subscribed Stock $100,000 

Payment of incorporators' subscriptions to 
stock as follows : 

A. W. Davison $30,000 

George H. Brandon 30,000 

R. S. Cooke 20,000 

James Robinson 20,000 



io 6 SPECIAL ENTRIES 

Third Entry » 

Merchandise $50,000 

To Subscribed Stock $50,000 

Payment of balance of Davison's subscrip- 
tion to stock, paid in merchandise as per 
agreement. 

As will be noted, "Subscribed Stock" is debited with the 
full amount subscribed ; and this having been paid, is credited 
with the same amount; the account then balancing and 
thus showing that all stock subscribed has been paid. Where 
subscriptions are not paid at once, or where they are paid 
in instalments, subscribers' accounts are sometimes opened 
in the general ledger; but in practice it is better to open 
individual accounts in a subsidiary ledger, letting "Sub- 
scribed Stock" account in the general ledger represent all 
these as a controlling account. When the number of sub- 
scribers is large, it is sometimes advisable to record them 
collectively in the ledger under "Subscriptions" account, as 
explained in § 74. 

§ 98. Stock Sold on Instalments (Plan 1) 

In accordance with the data furnished by the subscrip- 
tion list,* the Lancaster Cement Company was organized 
July 1, 1 91 6, with a capital stock of $1,000,000, one-half of 
which was subscribed for as follows : 

Ronald Logan. . . 1,000 shares 

Samuel Bennett 1,000 " 

A. W. Thompson 1,000 " 

J.H.Connor 1,000 " 

Oliver Ferguson 1,000 " 

The terms of subscription are 10% down, 30% on July 
21, and the remainder in two instalments as shown by the 
agreement. 

-*See § 55. 



STOCK OF ORIGINAL ISSUE 



107 



The instalment book* shows the method of recording 
calls for instalments. The first call was made by the trustee 
July 1 ; the second presumably upon final incorporation. 

As one-half of the stock was subscribed at the time of 
organization, this amount may at once be entered upon the 
books as an asset, since it represents definite obligations due 
the company. Occasionally the Subscription account is 
omitted and no formal entry of the subscriptions made in 
the ledger beyond a credit to Capital Stock as each instal- 
ment is paid. In that case the entries given below would 
be omitted and only cash entries made, Cash being debited 
and Capital Stock credited. Sometimes the amount sub- 
scribed is credited to Capital Stock Subscribed account and 
when paid transferred to Capital Stock account. 

First Entry July ^ Igi6 

Subscriptions $500,000 

Unissued Stock 500,000 

To Capital Stock $1,000,000 

The Lancaster Cement Company was or- 
ganized on this date with capital stock 

of '$1,000,000, divided into 10,000 shares 

of the par value of $100 each, one-half 

of which has been subscribed as per the 

following list. Terms of subscription 

are 10% on July 1, 1916, 30% on July 

21, and the remainder in two instal- 
ments as per agreement. 

Ronald Logan 1,000 shares 

Samuel Bennett 1,000 " 

A. W. Thompson 1,000 " 

J. H. Connor 1,000 " 

Oliver Ferguson 1,000 " 

5,000 " 

Unissued 5,000 " 

Total s .10,000 " 

•See § 58. 



I0 g SPECIAL ENTRIES 

The amount subscribed being now entered upon the 
books, the next step is to make entries for the instalments 
as they come due, the Instalment account being debited and 
Subscriptions credited. The accounts of subscribers must 
be shown either in the subscription ledger, the instalment 
register, or the general ledger. Sometimes they are placed 
in the back of the general ledger, but if they are numerous 
it is advisable to place them in a separate book. Of course, 
the total of the balances of these accounts must agree with 
the balance of the Subscriptions account in the general 
ledger, which is the controlling account. If the number 
of subscribers is large, an instalment sheet is made out, as 
shown in § 58. 

Second Entry July t igi6 

Instalment No. i $50,000 

To Subscriptions $50,000 

First instalment for 10% of $500,000 subscrip- 
tions, as per subscription list and instalment 
book. 

As the payments are made they are credited to the in- 
dividual accounts and also to Subscriptions account in the 
general ledger, or to the Instalment account when that is 
used. The latter plan is shown below, though instead of 
opening an account for each instalment, an account for 
"Subscribers" might be opened each time an instalment is 
due, as shown in § 74. 

The following entries assume that all the subscribers 
pay the instalment. If this is not the case, the actual amount 
received will be entered, leaving a balance due in Instalment 
No. 1. 

Third Entry July f> lgj6 

Cash $50,000 

To Instalment No. 1 $50,000 

For payment of first instalment of 10%. 



STOCK OF ORIGINAL ISSUE 



109 



Fourth Entry 

July 21, 1916 

Instalment No. 2 $150,000 

To Subscriptions.. $150,000 

For second call, 30% on total subscriptions 
of $500,000. 

Fifth Entry 

July 21, 1916 

Cash $150,000 

To Instalment No. 2 $150,000 

For payment of second instalment of 30%. 



§ 99. Stock Sold on Instalments (Plan 1) — Ledger Accounts 

The general ledger accounts resulting from the fore- 
going entries are as follows : 

Capital Stock 



1916 

July 1 Authorized.. $1,000,000.00 

Subscriptions 



1916 

July i Capital Stock. . $500,000.00 



1916 

July 1 Instalment No. 1 $50,000.00 
" 21 Instalment No. 2 150,000.00 



Unissued Stock 



1916 

July 1 Capital Stock. . $500,000.00 

Instalment No. i — 10% 



1916 

July 1 Subscriptions.. $50,000.00 



1916 

July 1 Cash $50,000.00 

(If not all paid 

a balance will 

result.) 



II0 SPECIAL ENTRIES 

Instalment No. 2 — 30% 



1916 

July 21 Subscriptions $150,000.00 



1916 

July 21 Cash $150,000.00 

(If not all paid 

a balance will 

result.) 



Cash 



1916 

July 1 Instalment No. 1 $50,000.00 
" 21 Instalment No. 2 150,000.00 

If the names are not too numerous or the instalments 
too frequent, each instalment account might include on the 
debit side the names of subscribers and the amount due from 
each ; though this is not necessary, as all this information is 
clearly set forth on the instalment sheet or book. 

§ 100. Stock Sold on Instalments (Plan 2) 

In this case Capital Stock account exhibits only the 
capital actually contributed, being increased for each instal- 
ment paid in, and also for any subsequent sales of stock of 
original issue. The entry of unissued stock is manifestly 
out of the question under this plan of entry, since it is 
neither an asset nor a liability. 

First Entry — First Instalment 

July 1, 1916 

Subscribers $50,000 

To Capital Stock $50,000 

The Lancaster Cement Company was or- 
ganized on this date with capital stock 
of $1,000,000, divided into 10,000 shares 
of the par value of $100 each, one-half 
of which has been subscribed as per the 
list given below. Terms of subscription 
are 10% on July 1, 1916, 30% on July 



STOCK OF ORIGINAL ISSUE IIT 

21, and the remainder in two instalments 
as per agreement. First instalment, 10% 
on $500,000, now due. 

(List of subscribers) 

Second Entry 

July 1, 1916 

Cash $50,000 

To Subscribers $50,000 

For payment of first instalment. 

Third Entry — Second Instalment 

July 21, 1916 

Subscribers $150,000 

To Capital Stock $150,000 

For second call, 30% of $500,000. 

Fourth Entry 

July 21, 1916 

Cash $150,000 

To Subscribers $150,000 

Payment of second instalment of 30%. 

If thought advisable, the journal entries might be 
omitted and, the Subscribers' account being eliminated, only 
cash book entries be made, crediting Capital Stock ; but this 
does not permit the full explanations which can be so con- 
veniently placed in the journal. 

§101. Sale of Stock After Organization 

The statutes of the various states usually require that 
when a company is organized some portion of its stock 
shall be issued, or at least subscribed for, before active 
operations are begun. Some of the capital stock must, of 
course, be sold before the company can exist as an active 
business organization; but beyond these statutory require- 
ments, the whole matter is one for the corporation itself to 



112 SPECIAL ENTRIES 

decide, and the capital stock may be all issued at the time 
of organization or part be held for future use in case the 
immediate needs of the company are provided for. This 
unsubscribed or unissued stock is sometimes (though in- 
appropriately) called "treasury stock" (§ 27). 

Assuming that on August 1, 19 16, $100,000 of the un- 
issued stock of the Lancaster Cement Company has been 
sold at par to Frank K. Brennan, one-half for cash and one- 
half in 30 days, the following entries would be required : 

August 1, 1916 

Subscriptions (or Frank K. Brennan) $100,000 

To Unissued Stock $100,000 

The Lancaster Cement Company has this 
day sold to Frank K. Brennan $100,000 
of its unissued stock, one-half payable 
in cash and the balance in 30 days. 

August 1, 1916 

Cash $50,000 

To Subscriptions (or Frank K. Brennan) $50,000 

First payment of 50% on Brennan's stock 
subscription. 

August 31, 1916 

Cash $50,000 

To Subscriptions (or Frank K. Brennan) $50,000 

Final payment of 50% on Brennan's sub- 
scription to $100,000 of stock. 

It is apparent that the method of recording entries in 
this case will be governed by the original plan of opening 
entries, as the various entries should, of course, harmonize. 

§ 102. Stock Sold Below Par 

As already stated, when stock on its original issue is 
sold below par, it may involve the purchaser in liability for 



STOCK OF ORIGINAL ISSUE 



113 



the unpaid balance. (See § 26.) Occasionally, however, 
stock is sold on original issue at less than par regardless of 
this liability. This may be all right if not prohibited by the 
state law ; but it is obvious that the liability for the unpaid 
balance still attaches to such stock so long as it is in the 
hands of the original purchasers or those who purchase 
from them with knowledge of the conditions. 

To illustrate the entries in such case, assume that on 
August 15, 1916, $100,000 of the unissued stock of the 
Lancaster Cement Company is sold to Henry Jones for 
$80,000, payable $40,000 on date of purchase, and the 
balance in one month. The entries are then as follows : 

August 15, 1916 

Henry Jones $80,000 

Discount on Stock 20,000 

To Unissued Stock. $100,000 

For sale of 1,000 shares of unissued stock 
to Henry Jones at $80 per share, payable 
$40,000 down and the balance in one 
month. 

August 15, 1916 

Cash $40,000 

To Henry Jones $40,000 

First payment on subscription to 1,000 
shares of stock. 

September 15, 1916 

Cash $40,000 

To Henry Jones $40,000 

Balance of payment on subscription to 1,000 
shares of stock. 

The Stock Discount account now remains open upon the 
books and should either be closed into Profit and Loss 
during the year, or spread over a term of years; or the 



ii 4 



SPECIAL ENTRIES 



directors may appropriate enough of the surplus profits in 
the form of a dividend to wipe it off entirely. It is prudent 
in any case to get rid of it as soon as possible so as to 
remove from the records an undesirable item. In the fol- 
lowing entry it is closed into Profit and Loss. 

Profit and Loss $20,000 

To Discount on Stock $20,000 

To close Stock Discount account into Profit 
and Loss — entry made by order of the 
board of directors. 

The above entry will suffice, perhaps, in case the profits 
are ample to take care of it; but, if by this disposition a 
deficit is created in the Profit and Loss account, nothing has 
been gained by the transfer. 

§ 103. Stock Sold Above Par 

It is but seldom that stock in a newly organized com- 
pany sells for more than its face value. Occasionally, how- 
ever, where the new company takes over valuable property, 
or its organizers are men known to be successful and its 
purpose is attractive, subscriptions are taken at more than 
par. 

After a company has been organized and has achieved 
success, its stock, if offered for sale, is usually for the pur- 
pose of raising money to extend the business, purchase new 
properties, or do something else distinctly advantageous to 
the corporation. In such cases the stock is frequently worth 
more than par, and the right of purchase is usually offered 
first to the stockholders, who are privileged to buy all or 
part of the issue at par or at a given figure above par. Such 
privileges have a distinct value, and it is not unusual for 
rights of this kind in the larger corporations to be traded in 
freely. 

When a corporation sells its stock at a premium, the 



STOCK OF ORIGINAL ISSUE 



115 



proceeds in excess of the par value are credited either to 
Premium account or to Surplus account, and represent 
profits. Speaking generally, however, it would be of doubt- 
ful wisdom for the directors to distribute such premiums in 
the form of dividends, even though they may have the 
technical authority to do so. 

To illustrate the accounting treatment of premiums, 
assume that $100,000 face value of the unsubscribed stock of 
the Lancaster Cement Company has been sold November 1, 
19 16, to George Bowers for $120,000, payable $50,000 at 
date of purchase and the balance in one month. The entries 
for the transaction would be as follows : 

November 1, 1916 

George Bowers (or Subscriptions) $120,000 

To Unissued Stock $100,000 

" Stock Premium 20,000 

The Lancaster Cement Company has this 
day sold to George Bowers $100,000 of its 
unissued stock for $120,000; $50,000 is 
payable on the day of purchase, and the 
balance in 30 days. 

November 1, 1916 

Cash $50,000 

To George Bowers $50,000 

First payment on account of subscription 
to stock. 

December 1, 1916 

Cash $70,000 

To George Bowers $70,000 

Balance due on account of subscription to 
stock. 

The premium may stand in the Stock Premium account, 
or be transferred to Surplus or to a permanent reserve 
account ; or it might be reserved for the extinguishment of 
some doubtful or wasting asset, as good-will, plant, or some 



XI 6 SPECIAL ENTRIES 

machine or patent right. In case it were transferred, Stock 
Premium account would, of course, be credited and the 
account to which it is transferred be debited. 

§ 104. Stock Issued at a Premium to Create a Surplus 

In the previous illustration the stock of an established 
company was sold at a premium. It is not unusual for a 
corporation to sell its stock above par at the time of incor- 
poration, for the purpose of creating a surplus — a practice 
which is usually followed by insurance companies, banks, 
trust companies, and other financial institutions. A com- 
pany with a substantial surplus is more likely to possess the 
confidence of the public than one that has none; and by 
selling stock at a premium a more or less substantial surplus 
or margin is provided at the outset, which may be drawn 
upon to meet organization expenses, and carry the company 
and give it solidity until it becomes firmly established. 

When stock is thus sold at a premium, the entries are 
the same as in any other sale above par. For example, if a 
share of stock is sold for $150, the par value, $100, might be 
credited to Unissued Stock or Capital Stock, and the $50 
to Premium or Surplus. 

There are material advantages in this plan of selling 
stock, especially in the case of a national bank, where a 
double liability is attached by statute to every share of its 
stock. If the stock is sold at a premium sufficient to meet 
the statutory liability, not only is this liability provided 
against, but the bank is given a substantial and desirable 
addition to its working capital. 

In any such case the premium is credited to Surplus. 
Thus, assume that the Second National Bank of Shawmut 
has been incorporated with a capital stock of $250,000, all 
of which has been sold at a premium of 50%. The book 
entry would appear as follows : 



STOCK OF ORIGINAL ISSUE 117 

Cash $375,000 

To Capital Stock $250,000 

" Surplus 125,000 

The Second National Bank of Shawmut in- 
corporated with capital stock of $250,000, 
has on this date sold the same at a 
premium of 50%. 

This contributed surplus remains on the books as a 
credit to Surplus account. 

§ 105. Payment of Salaries in Stock 

Not infrequently the salaries of managers and officers 
of corporations are paid wholly or partly in stock. The 
procedure is not improper under suitable conditions, and the 
entries are simple. It is in effect a payment of salaries in 
cash whrch is subsequently returned as payment for stock. 
Such stock salaries might be paid monthly if so agreed, but 
even when based on monthly instalments, they are usually 
allowed to accumulate till the end of the year or longer, 
before an issue of stock is made. In any case, a debit will 
be made to the proper salary account or else to expense 
account, and a credit of the full face value of stock issued 
made to Capital Stock, Unissued Stock, or Treasury Stock, 
according to the conditions and the method of entry. If 
the stock is not taken at its par value, any excess over par 
is credited to Surplus, or, if taken below par, the difference 
between this price and par is debited to Surplus. 

§ 106. Payment of Commissions in Stock 

• Commissions paid in stock are of common occurrence 
in the promotion or organization of a company, and they 
create no unusual bookkeeping entries. If paid by issue of 
original stock, Commission account (or such other expense 
account as commissions may be charged to) is debited, and 
Capital Stock or Unissued Stock account is credited; pay- 



n8 SPECIAL ENTRIES 

ments from treasury stock are similarly debited and are 
credited to "Treasury Stock." Indeed, there is no objection 
to the liquidation of any debts by stock, so long as the 
capital is not impaired by so doing, i.e., so long as a fair 
equivalent is received for the issued stock. An existing 
mortgage or even a loan or current debt might be cancelled 
by means of a stock issue, provided the creditor were willing 
to accept it as a substitute for cash. Dividends are fre- 
quently paid in stock, such dividends being known as "stock 
dividends" (§ 131). 



CHAPTER VIII 

TREASURY STOCK AND STOCK OF 
OTHER COMPANIES 

Transactions in Treasury Stock 

§ 107. Donated Stock 

In speculative companies, donations of stock to the 
treasury (see § 27) are customary, and give rise to some 
of the most unsatisfactory entries of corporate bookkeeping. 

Any donation to a commercial undertaking is anomalous, 
but when it takes the form of stock just issued (and hence 
of unknown value) by the very corporation to which it 
is donated, the transaction is entirely outside the realm of 
ordinary business and its proper entry is difficult. The 
object of such a donation of stock has already been stated 
(§ 27). The newly organized corporation requires stock 
which can be sold below par without carrying with it a 
liability. Treasury stock supplies this need, and so long as 
the laws relating to full-paid stock exist in their present 
form, so long will transactions in donated stock continue.* 

When a corporation reacquires its own stock, whether 
by donation or purchase, this stock becomes, from the 
accounting standpoint, an asset, and is debited to "Treasury 
Stock" at the price paid if the stock is purchased, or at its 
estimated value if it is donated. The corresponding credit 
in the case of stock purchased for cash is, of course, to 
Cash account, but in the case of donated stock the account 

*Under the New York law permitting corporations to issue stock without par 
value, stock so issued may be sold at any desired price price without liability. 

119 



J20 SPECIAL ENTRIES 

to be credited will vary according to the method of record 
adopted. 

§ 108. Donated Stock— First Method of Entry 

Under this method, if a corporation is organized with 
a capital stock of $75,000, all of which is issued in payment 
for property, and stock of the face value of $10,000 is 
returned to the company to be sold to secure operating 
capital, the entries, assuming the stock to be salable at par, 
will be as follows : 

Treasury Stock $10,000 

To Donation Account (or Working Capital 

Donated) $10,000 

Stock donation of 100 shares to be sold to pro- 
vide working capital. 

When the stock is sold, the following entry is required : 

Cash $10,000 

To Treasury Stock $10,000 

For 100 shares of treasury stock sold at $100 
per share. 

The "Donation" account is then closed into Surplus 
account as follows : 

Donation Account $10,000 

To Surplus $10,000 

Closing Donation account into Surplus. 

This gives the corporation an apparent profit of $10,000. 
Whether such a surplus is a real profit applicable to divi- 
dends must be decided, according to conditions, by the 
directors of the particular corporation. As a matter of fact, 
such a surplus is practically taken out of capital and its 
use for dividends is of doubtful propriety. If the stock was 
donated to provide working capital, the use of its proceeds 
for dividends would be manifestly improper. 



TREASURY STOCK 12 1 

Donated stock can rarely be sold at par, and it is entered 
at the time it is received, at such price as the corporate 
authorities think it will produce. Thus, in the case in- 
stanced, if instead of $100 per share the stock were expected 
to bring but $50 per share, it would be entered upon the 
corporate books as follows: 

Treasury Stock $5,000 

To Donation Account $5,000 

For 100 shares of stock donated to treasury 
for the purpose of securing working capital; 
estimated value, $50 per share. 

When the stock is sold at the estimated price, the other 
entries are similar to those given, Cash being debited, Treas- 
ury Stock credited with the amount received, and Donation 
account closed into Surplus. If, however, the stock when 
sold produced a larger price than was expected, say $60 
per share, the cash entry would be as follows : 

Cash $6,000 

To Treasury Stock v $5,000 

" Donation Account 1,000 

For 100 shares of stock donated to treasury and 
sold at $60 per share. 

This gives a total credit in Donation account of $6,000, 
which is the amount actually realized on the donated stock. 
Donation account is then closed into Surplus by a journal 
entry. 

If, on the other hand, the treasury stock sold at less 
than the estimated value, say, for instance, $40 per share, 
the cash entry would be as follows : 

Cash $4,000 

To Treasury Stock $4,000 

For 100 shares donated to treasury and sold at 
$40 per share. 



122 SPECIAL ENTRIES 

The difference between the estimated value and sale 
price of the stock is then debited to Donation account as 

follows : 

Donation Account $1,000 

To Treasury Stock $1,000 

For ioo shares of stock donated to treasury and 
entered at $50 per share, but sold at $40 per 

share. 

This shows a credit balance in Donation account of 
$4,000, which is the real value of the stock donated, and the 
account is then closed into Surplus. The same end might, 
of course, be attained by the single entry which follows : 

Donation Account $5,000 

To Surplus $4,000 

" Treasury Stock 1,000 

§ 109. Donated Stock — Second Method of Entry 

The objection to the first method of recording donated 
stock lies in the fact that it shows an apparent profit before 
active corporate operations have begun, or even before the 
company has become well established. At this stage, when 
the corporation's sole assets are the property taken over 
and the stock which has been donated to it (the value of 
which really rests upon this same property), any profits 
shown could hardly be other than fictitious; certainly not 
unless the property for, which the stock was originally is- 
sued was actually worth as much or more than the face 
value of the stock, in which case a real profit from donated 
stock would result. In practice, the value of property taken 
over by a corporation is seldom conservatively estimated, 
and the apparent profits from donated stock are therefore 
usually fictitious and misleading. 

Under the second method of entry, donated stock is 
considered as a concession on the price of the property for 



TREASURY STOCK 



123 



which it was issued, and the value of the returned stock is 
accordingly credited to this same property account. This 
reduces the book cost of the property to the corporation, 
but does not show the immediate and usually fictitious profit 
that is shown by the first method of entry. The method is 
therefore more conservative than the one first presented 
and is to be preferred, especially in cases where the property 
was overvalued at the time of incorporation. 

Thus, if a corporation is formed with a capital stock 
of $100,000 and this entire amount is issued in payment for 
patent rights, and $25,000 face value of this stock is then 
returned to the corporation, the entries under the second 
method would be as follows : 

Patent Rights $100,000 

To Capital Stock $100,000 

Entire capital stock issued in exchange for 
patent rights. See page ... of minute 
book. 

When the donation of $25,000 face value of the stock 
is received, it is credited to "Patent Rights" at the price at 
which it is expected to be sold. Thus, if the $25,000 face 
value of stock returned was expected to bring $50 per share, 
the entry would be as follows : 

Treasury Stock $12,500 

To Patent Rights $12,500 

For 250 shares of stock valued at $50 per 
share, donated to treasury for purposes of 
the corporation. 

If this stock is sold at the price expected, the cash entry 
would show the following debits and credits : 

Cash $12,500 

To Treasury Stock $12,500 

For 250 shares of treasury stock sold at $50 
per share. 



124 



SPECIAL ENTRIES 



If, however, the stock should sell at more than $50 
per share, say $60 per share, the excess must go to Patent 
Rights in order to show the true rebate or concession made 
on the price. The entry would therefore be as follows : 

Cash $15,000 

To Treasury Stock $12,500 

" Patent Rights 2,500 

For 250 shares of treasury stock sold at $60 
per share. Originally credited to Patent 
Rights at $50 per share. 

Likewise, if the stock sold at less than $50 per share, 
say $40, the deficiency must be debited to Patent Rights, 
as shown in the following entry : 

Cash $10,000 

Patent Rights 2,500 

To Treasury Stock $12,500 

This reduces the net credit on patent rights to the 
amount actually realized from the sale of the treasury stock. 

The advantage of the second method of handling do- 
nated stock lies in its conservative presentation of the 
conditions. Under the first method, as already stated, a 
profit is shown before the corporation has even begun its 
active operations. Under the second method, no immediate 
profit is shown as a result of the stock donation. Perhaps 
at some later date when the books are balanced, an inventory 
of the property will show a value in excess of its cost ; this 
gain is real, and might then — unless conservative account- 
ing practice prohibits — properly be transferred to Surplus. 

An objection sometimes urged against the second method 
of entering donated stock is the fact that the entry may, by 
inference, cast some reflection upon the directors' usual 
statement in their resolution of acceptance, that the property 
"is of the reasonable value of the stock issued therefor." 



TREASURY STOCK 1 25 

This is a matter for the treasurer of the corporation and 
the directors to consider and decide for themselves. The 
objection has no legal weight. 

§ no. Bonus Paid in Stock 

Stock given in bonuses is issued without any direct con- 
sideration, and as an extra inducement to purchasers. Such 
issues are not necessarily improper as they usually promote 
the sale of bonds, preferred stock, or other securities, and 
thus directly benefit the corporation. The particular stock 
given as a bonus, however, apparently goes without direct 
consideration, and will, as a matter of course, be taken 
from treasury stock. A "Bonus" account is opened, and the 
entries are made on the basis of the price at which the 
stock was debited to Treasury Stock account. 

Thus, if $10,000 face value of common stock is given 
from treasury stock as a bonus to the purchasers of a like 
amount of preferred stock, and this common stock had been 
debited to Treasury Stock account at 50 cents on the dollar, 
the entry would be as follows: 

Bonus $5,000 

To Treasury Stock $5,000 

For 100 shares of stock originally entered at $50 
per share, given as a bonus with 100 shares of 
preferred stock sold at par. 

Bonus account would thereafter be treated as part of 
the organization expenses which are generally written off 
over a period of years. 

Original stock might be issued as bonus stock so long 
as no one offers objection, but, since it would not in that 
case be full-paid stock, the holders would remain liable to 
corporate creditors for the full face value in case of in- 
solvency. In any such case the outgoing stock would be 



I2 6 SPECIAL ENTRIES 

debited to Bonus account and credited to Capital Stock or 
Unissued Stock, as the case might be. 

§iii. Purchase and Sale of Corporation's Own Stock 

A corporation may issue its capital stock in exchange 
for cash, property, or services. It does not, however, as a 
rule have the right to purchase back such stock without 
statutory or special permission from the state in which 
it was incorporated; and even then, charter authority or 
sanction of the stockholders may be required. This is so 
because the purchase of its own stock by a corporation is 
practically a reduction of its capital stock, and such a 
reduction can be effected only by permission of the state and 
by following the legal procedure prescribed. 

There are many instances of companies having purchased 
their own stock, but the authority under which it is done 
can be determined only after an inspection of the statutes 
of the particular state and the charter and by-laws of the 
particular corporation. Sometimes an issue of preferred 
stock provides for its redemption or repurchase at specified 
dates or periods, or at the option of the company officials. 
When such an issue is contemplated, a careful investigation 
should be made to determine whether the proposed redemp- 
tion is legally possible. 

When a company purchases its own stock, it is not 
usually as an investment, but in pursuance of some pre- 
arranged plan or for the protection of its own interests in 
some way. Stock so secured should be charged to Treasury 
Stock. Stock bought back does not have the voting right 
while in possession of the corporation, nor may it participate 
in dividends. 

Stock which has come back into the possession of a 
company may, as a rule, be sold again on the open market. 
As to whether or not it may be sold at a discount depends 



TREASURY STOCK 



127 



upon circumstances. It is apparent that it may not be resold 
for less than it cost if such sale would impair the capital. 
This would not, of course, be the case with stock which 
has already been issued full-paid and then donated back 
to the company. Stock cancelled for non-payment of in- 
stalments may be resold, but the selling price should be high 
enough to bring, in connection with any payments already 
received, at least the par value of the shares involved. 

§ 112. Entries for Purchase and Sale of Corporation's Own 
Stock 

To illustrate the accounting treatment of transactions 
in a company's own stock, suppose that a company has 
purchased 500 shares of its full-paid stock for $45,000, and 
that after holding it for a time, 250 shares have been resold 
for $25,500 (200 shares for $20,000, and 50 shares for 
$5,500). Later the company made two sales of 125 shares 
each at $90, closing out the balance of the stock. The 
entries are as follows: 

First Entry 

Treasury Stock $45,000 

To Cash $45,000 

For purchase of 500 shares full-paid stock of 
this Company at $90 per share. 

Second Entry 

Cash $25,500 

To Treasury Stock $25,500 

For the sale of 250 shares of treasury stock. 
200 shares @ 100 and 50 shares @ no. 

The third and fourth entries recording the further sales 
would be similar to the second entry, varying only as to 
amounts. 



I2 8 SPECIAL ENTRIES 

Fifth Entry 

Treasury Stock $3,000 

To Profit and Loss (or Surplus) . .♦. $3,000 

For profits realized on the purchase and sale of 
treasury stock. 

Profits of this nature, while technically available for 
dividends, are preferably credited to Surplus or held in 
some special reserve account. 

Transactions in Stock of Other Corporations 

§ 113. Purchase and Sale of Stock of Other Corporations 

A corporation may acquire the stock of another corpora- 
tion only when it is expressly authorized to do so by its 
charter or by the statutes of the state. But cases have fre- 
quently arisen in which the circumstances were such that 
the courts have sanctioned such purchases — as, for instance, 
stock held as security for a debt and bought in — even 
though both the law and the charter of the corporation were 
silent in this respect. Permission to purchase stocks of 
other companies is given by the statutes of several of the 
states, but it is usually required that the stock thus pur- 
chased shall not be that of a competing company. In some 
cases it is left to the incorporators themselves to define in 
the charter to what extent securities of other companies 
may be held or purchased. In New York, power is granted 
corporations to hold stock in similar or related corporations 
by proper charter provisions; and when one corporation 
holds stock in another, its directors or officers are eligible 
as directors in the other corporation but they cannot vote 
the stock of any competing corporation. Similar power 
is given in New Jersey, Pennsylvania, Illinois, and many 
other states, while in some states such purchase of stock is 
prohibited. New Jersey corporations are given unrestricted 
authority to purchase stocks of other corporations. 



STOCK OF OTHER CORPORATIONS 



129 



In some states ' 'holding companies" may be organized, 
whose purpose is not to carry on any active business, but 
merely to purchase and hold the stocks, bonds, and securities 
of other corporations, the same as individuals might. The 
"holding company" secures a controlling interest in its sub- 
sidiary companies, which has the effect of merging or 
consolidating all of the separate operating companies under 
one management, and it derives its revenue entirely from 
the dividends on the stock of these underlying companies. 
The United States Steel Corporation is a holding company, 
and owns the stock of various underlying companies 
which in turn are known as "operating companies." (See 
Chapter XXXI.) 

When stock of another corporation is purchased, it is 
not treasury stock of the corporation which acquires it, but 
an investment, and goes into an entirely separate and dis- 
tinct account headed "Investments," or "Stocks of Other 
Companies," or some other distinguishing caption. If bonds 
are included in the purchase, the account might be headed 
"Securities of Other Companies," or else "Stocks and Bonds 
of Other Companies" ; or separate accounts might be opened 
for each class of security or even for each security. Such 
investments are usually entered up at the cost price, and, 
when sold, at the selling price. The profit or loss sustained 
as a result of the sale will, of course, be closed into the 
Profit and Loss account. 

§114. Entries for Purchase and Sale of Stock of Other 
Corporations 

To illustrate the entries involved, assume that the Ameri- 
can Trading Company has purchased $300,000 par value of 
stock of the Baldwin Mercantile Company for $250,000. 
It later disposes of $40,000 face value of this stock for 
$50,000, thereby netting a profit of $10,000. Later the 



130 



SPECIAL ENTRIES 



Baldwin Mercantile Company declares a 6% dividend. The 
following entries are required for proper record of the 
transactions in stock: 

Stocks of Other Companies (or "Stock of Bald- 
win Mercantile Company") $250,000 

To Cash $250,000 

For purchase of $300,000 par value of stock 
of the Baldwin Mercantile Company. 

Cash $50,000 

To Stocks of Other Companies $50,000 

For sale of $40,000 par value of stock of 
the Baldwin Mercantile Company. 

Stocks of Other Companies $10,000 

To Profit and Loss (or Surplus) $10,000 

For profit on sale of $40,000 of stock in 
Baldwin Mercantile Company. 

The second and third entries could easily be combined. 
When the 6% dividend is declared by the underlying com- 
pany and paid over to the holding company, an entry similar 
to the following is required : 

Cash $15,600 

To Income Account (or~"Dividends on In- 
vestments") $15,600 

For dividend of 6% on $260,000 par of stock 
of the Baldwin Mercantile Company. 

§ 115. Entries When Stock Is Exchanged for Stock of 
Other Corporations 

In cases where the purchase of securities in other cor- 
porations is sanctioned by statute or by charter, the manner 
of making payment is usually left to the contracting parties. 
The stock of another company, instead of being purchased 
for cash, might therefore, if the state laws permit, be ob- 



STOCK OF OTHER CORPORATIONS 



131 



tained in exchange for the stock of the acquiring company. 
To illustrate the entries when this is done, assume that 
the Delaware Manufacturing Company has been organized 
with a capital stock of $1,000,000, comprising 10,000 shares 
of the par value of $100 each, of which 1,000 shares have 
been subscribed and paid for in cash. Additional stock 
of the company has been disposed of as follows : 

1. 3,000 shares in exchange for 2,500 shares of stock, 

$100 each, of the Hudson Manufacturing Com- 
pany. 

2. 1,000 shares in exchange for 1,200 shares in the 

Superior Textile Company. 

3. 1,000 shares in exchange for 1,000 shares in the 

Brown Cloth Company. 

4. 1,000 shares in exchange for 500 shares of the 

Southern Cotton Company. 

First Entry 

Unissued Stock $1,000,000 

To Capital Stock $1,000,000 

The Delaware Manufacturing Company 
is incorporated with an authorized 
capital stock of $1,000,000. 

Second Entry 

Cash $100,000 

To Unissued Stock $100,000 

For 1,000 shares of stock sold for cash to 
the following persons : 

(Names stated) 

Third Entry 

Stocks of Other Companies $300,000 

To Unissued Stock $300,000 

For purchase of 2,500 shares of the 
Hudson Manufacturing Company in 
exchange for 3,000 shares of this Com- 
pany. 



132 



SPECIAL ENTRIES 



Fourth Entry 

Stocks of Other Companies $100,000 

To Unissued Stock $100,000 

In exchange for 1,200 shares of the 
Superior Textile Company. 

Fifth Entry 

Stocks of Other Companies $100,000 

To Unissued Stock $100,000 

In exchange for 1,000 shares of the 
Brown Cloth Company. 

Sixth Entry 

Stocks of Other Companies $100,000 

To Unissued Stock $100,000 

In exchange for 500 shares of the 
Southern Cotton Company. 

Entries 3 to 6 inclusive might easily be consolidated. It 
will be seen that the stock has been issued at par and that 
each lot of stock in other companies has been valued at the 
par value of the stock given for it. The unsold stock, num- 
bering 3,000 shares, the par value of which is $300,000, 
will stand as a debit balance to Unissued Stock until sold. 



CHAPTER IX 

DIVIDENDS AND THEIR ENTRY 

§ 1 1 6. The Nature of Dividends 

Dividends are corporate profits which have been set aside 
by formal action of the directors for distribution among the 
stockholders. The corporate books are periodically bal- 
anced, the profits determined, and the directors then decide 
what portion, if any, of these profits shall be withdrawn for 
division among the stockholders. If a dividend is voted, or 
as it is termed, "declared," it is in the shape either of a 
percentage on the par value of the outstanding stock, or a 
fixed amount on each share. The amount received by each 
stockholder is therefore determined by the number of shares 
he holds. 

§ 117. Directors' Powers as to Dividends 

It is a well-recognized principle of law that the directors 
of a corporation, alone, have the power to declare a dividend 
out of the earnings of the corporation and to determine its 
amount. This right of directors is incident to their general 
power to manage the affairs of the corporation, and is 
recognized either directly or by implication by the laws of 
every state in the Union. The right is, of course, subor- 
dinate to any statutory, charter, or by-law provisions which 
may apply; but beyond this the whole matter is in the dis- 
cretion of the board of directors. 

Usually in small companies the by-law provisions re- 
lating to dividends merely provide that dividends shall be 
declared from surplus profits at such times as the board may 
direct. The by-laws of the larger companies, however, are 

133 



134 



SPECIAL ENTRIES 



generally more explicit, as for example, directing the board 
— if profits permit — to declare dividends on the first of each 
year, or at the regular meetings in January and July, or on 
some other specific date. 

If the directors, at the regular time for declaring a divi- 
dend, decide not to declare one, they are said to have "passed 
the dividend.'' 

§ 118. Informal Distribution of Corporate Profits 

Corporate profits are occasionally distributed among 
stockholders without the formality of declaring a dividend 
— a valid proceeding if all the stockholders consent. Where 
the corporation is small, the distribution of profits is some- 
times effected without recourse to dividends, by means of 
salaries which therefore sometimes appear unreasonably 
large. In such cases all the stockholders are usually also 
officials of the corporation, and thus all participate in this 
informal division of profits. This plan is permissible only 
when all the parties interested assent and no improper ends 
are to be attained thereby. When, however, such salaries 
are paid for the sake of concealing profits, with a more or 
less fraudulent intent, the courts hold them as "dividends 
of profits under another name, put in that guise for con- 
cealment and delusion." (Rubber Co. v. Goodyear, 9 Wall 
[N. Y.] 788 [1869].) 

§119. Surplus — Equalizing Dividends 

While dividends must, if declared, be declared from 
earnings, the capital being kept intact for the protection of 
the creditors of the corporation, it is not obligatory on the 
directors to distribute all the net profits and it would be 
poor policy to do so. A surplus should be accumulated to 
meet unexpected losses and for other unforeseen contin- 
gencies. When this is done, if it seems wise, this surplus 



DIVIDENDS AND THEIR ENTRY 



135 



may be drawn upon to pay dividends in poor years when 
the profits are not sufficient for that purpose, and in this 
way dividends be equalized. The advantage of this is 
obvious. 

§ 120. Declaration of Dividends 

Dividends may be declared payable to the stockholders 
of record on and after the day of the declaration, or on a 
specified later day, but could not be declared payable to the 
stockholders who were of record on a day prior to the 
announcement. This is obvious, as such stockholders might 
no longer be stockholders when the dividend was declared. 

Many companies close the transfer books for a certain 
number of days before payment of dividends, so as to avoid 
the confusion occasioned by making transfers before all of 
the dividend checks are made out; and during that period 
refuse to recognize any change in the ownership of stock. 
(See § 62.) Other companies make it a point to announce 
in their dividend notices that "books will not close' , or 
"books will remain open." During the days the transfer 
books remain closed, stock of the company which is sold 
goes "ex-dividend," that is, without the dividend. In other 
words, the dividend will not be paid to the purchaser, but 
to the one in whose name the stock stands on the company's 
books. 

A customary form of the resolution of the board of 
directors declaring a dividend is as follows: 

Resolved, that the regular semiannual dividend of four per cent 
(4%) from surplus profits be and hereby is declared upon the common 
stock of the Company, payable upon the 20th day of October, 1916, to 
the stockholders of record as shown by the books of the Company on 
the 10th day of January, 1916, and that the Treasurer of the Company 
be and hereby is authorized and directed to pay said dividend in 
accordance with the terms of the present resolution. 

Resolution Declaring Dividend 



I3 6 SPECIAL ENTRIES 

§121. Notice of Dividend 

Among the smaller corporations the secretary usually 
sends notice to the stockholders when a dividend is declared, 
notifying them of the rate and sometimes the amount, date 
of payment, and any other details of importance. A notice 
of this kind may be either printed or typewritten. 

Among the larger corporations it is usual, after passing 
the resolution declaring a dividend, to publish a notice of 
this dividend in the daily papers. The following is a typical 
dividend notice : 

Fulton Coal Company 
General Office, Reading Terminal 
Philadelphia 

July 17, 1916 
The Directors have declared a dividend of fifty cents (50c) per 
share, payable on Monday, July 24, 1916, to the stockholders as they 
stand registered on the books of the Company at the close of business 
July 17, 1916. 

The transfer books of the Company will be closed until July 25, 
1916. 

W. G. Brown, 

Secretary 
Dividend Notice — Publication 

§ 122. Ownership of Dividends 

When a dividend from the net profits of a corporation 
has once been legally and publicly declared, it cannot there- 
after be rescinded or annulled, but its amount is immediately 
transferred from the corporate ownership to the ownership 
of the stockholders ; and this principle holds even though at 
the time it was declared no definite date was fixed for its 
payment. If, however, a dividend has been declared but 
this fact has not been made public, being known only to 
the directors, they may rescind it. Also, if it were illegal, 
a dividend formally declared and announced might be re- 
voked at any time before payment. Should the board, for 



DIVIDENDS AND THEIR ENTRY 



137 



example, declare a dividend in defiance of or in ignorance 
of the fact that there were no profits from which it might 
legally be taken, they might revoke it at any time before it 
was actually paid. 

As soon as the day appointed for payment of a dividend 
is reached, the dividend becomes due and payable, and the 
stockholders can enforce its payment by legal procedure. 

§ 123. Payment of Dividends 

When a dividend is declared, its amount is credited to 
Dividend account ( § 83 ) and debited to Profit and Loss or 
Surplus. In the smaller corporations dividends are usually 
paid by check on the general bank account, just as in the 
case of any other company payment. Cash account is 
credited and Dividend account debited as the dividend checks 
are drawn. In the larger corporations it is usual to draw 
one check payable to the bank for the total amount of the 
dividend, and this check is entered in the cash book and 
posted to Dividend account in the ledger. This closes the 
account, and the general books of the company are no longer 
concerned with that particular dividend, no matter how 
long some of the stockholders may hold their dividend checks 
before getting them cashed. 

The check for the total dividend is deposited in the bank 
to the credit of a special account — as for instance, " Kingston 
Steel Works — Dividends" or "William Kingston, Treas- 
urer" — or even in another bank than that in which the 
corporation keeps its main deposit, and the individual divi- 
dend checks are drawn on this account, using a special check 
book. These are mailed or otherwise delivered to their 
owners, and, from the bank's statement of the dividend 
account, it can be seen at any time which stockholders have 
not, up to that time, drawn their money. This need not 
concern the general books of the corporation, however, be- 



i3« 



SPECIAL ENTRIES 



cause the entire matter is now outside the usual course of 
business; and even though there are outstanding unpaid 
dividend checks, the balance in the account need not neces- 
sarily show on the balance sheet. 

Instead of the plan just outlined some (though few) 
large corporations make no entries for dividend payments 
on the cash book until the dividend checks are paid at the 
bank. As reports are received from the bank, entries are 
made debiting Dividend account and crediting Cash.* Under 
this plan the credit balance of the Dividend account will 
show at any time the amount of the dividend still unpaid. 
It is not unusual for dividend checks to remain unpaid for 
a considerable time or even indefinitely, in which case this 
plan of recording dividend payments has some advantages. 
The Cash account in this case is also made to show its 
correct status, so that dividend checks outstanding do not 
have to be deducted in arriving at the correct balance of the 
dividend cash. 

The larger corporations with many stockholders usually 
have specially printed dividend checks, giving the date and 
number of the dividend. By means of an addressing ma- 
chine, the name and address of the stockholder are stamped 
on the face of the check in the lower left hand corner, after 
which the amount is filled in on the typewriter or other 
printing machine. After the checks and amounts are veri- 
fied, proved on the adding machine, and signed by the proper 
officials, they are placed in window envelopes for mailing. 

§ 124. Dividend Sheet or Book 

The practice of setting aside each quarter or half-year 
in a separate bank account the exact amount required for 
the payment of dividends, and drawing special checks against 
this fund, keeps dividend cash entirely separate from the 

*Daily statements are received from the bank along with cancelled checks from 
the previous day. 



DIVIDENDS AND THEIR ENTRY 



139 



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SPECIAL ENTRIES 



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DIVIDENDS AND THEIR ENTRY I4I 

general cash of the company. A dividend sheet or book 
similar to those on pages 139, 140, should be prepared each 
time, showing the names of stockholders, date of dividend, 
amount and number of each check, etc. As the checks are 
paid a record may be made in this book, if desired, but 
where the names are numerous this is hardly worth while. 

The dividend sheet or book contains a list of the stock- 
holders entitled to receive dividends. This list is usually 
made up from the stock ledger each time a dividend is de- 
clared, after the transfer books are closed, though in the 
case of companies with but few stockholders this is not 
necessary. When the stockholders are many and the stock 
active, it is very necessary that these lists be compiled, and 
that care be taken in checking up and proving the amounts 
which are to be paid. 

The bound dividend book is used, if at all, only by small 
companies whose stock is not active ; the larger corporations 
using loose sheets and placing them in binders for con- 
venience. These sheets, if bound together, would constitute 
the ordinary dividend book. Two forms of dividend sheet 
are shown on pages 139, 140, illustrating two methods of 
paying dividends. 

Where stockholders come to the office of the corporation 
or to the bank for their dividends, a space is allowed on the 
dividend sheet for their signatures. Some companies prefer 
this plan as it keeps the stockholders in touch with the 
corporation and its business. Most companies, however, 
have adopted the plan of mailing all dividend checks, and 
these are always made payable to order. The indorsement 
of the check is then considered a sufficient receipt, and the 
receipt column is unnecessary. 

§ 125. Entries for Cash Dividends 

To illustrate a simple form of entering cash dividends, 



I4 2 SPECIAL ENTRIES 

suppose the net profits of the Kingston Steel Works for the 
year 191 5 amounted to $38,690.40. The directors have 
declared the regular annual dividend of 5% on the $500,000 
of outstanding paid-up capital stock, payable in cash in ten 
days, the remaining profits going to surplus. The dividend 
is the seventh annual dividend that has been declared. 

The entries for the declared dividend and for paying it 
are as follows : 

January 7, 1916 

Profit and Loss $38,690.40 

To Dividend No. 7 $25,000.00 

" Surplus 13,690.40 

Seventh annual dividend of 5% on the 
outstanding capital stock of the Com- 
pany declared this day by the board 
of directors and payable January 17, 
1916. 

January 17, 1916 

Dividend No. 7 $25,000 

To Cash $25,000 

For payment of dividend No. 7, as per 
order of the directors. 

In many cases no Dividend account is opened, in which 
case the dividends paid are charged direct to Profit and Loss 
or to Surplus account, the entries for the foregoing transac- 
tion being as follows : 

January 7, 1916 

Profit and Loss $38,690.40 

To Surplus $38,690.40 

January 17, 1916 

Surplus $25,000 

To Cash $25,000 

Payment of the seventh annual dividend 
of 5% on the outstanding stock of the 
Company, declared January 7, 1916, 
and payable January 17, 1916. 



DIVIDENDS AND THEIR ENTRY 



143 



If a special bank account is set apart for dividend checks, 
the transfer of dividend cash is made as explained in § 123, 
by drawing" one check for the required amount, Dividend 
or Surplus account being debited and Cash credited. The 
individual checks are then issued by the officers in charge 
of the dividend disbursements. 

When dividends are paid quarterly, the current credit 
entries to Dividend account are sometimes omitted entirely, 
the cash payments being debited to Dividend account, which 
once or twice a year is closed into Surplus account. 

§ 126. Dividends Paid with Borrowed Money 

It is not unusual for even the most prosperous company 
to be temporarily short of ready cash to meet dividend pay- 
ments. The current assets may be three times as much as 
the current liabilities, and yet consist largely of notes and 
accounts receivable which cannot be used to pay dividends. 
In such a case it is perfectly proper for the directors to 
borrow money to pay a dividend. In that event the follow- 
ing entries might be made, the first a journal entry, all 
the others cash book entries: 

First Entry January ^ Igl6 

Surplus $10,000 

To Dividend Payable $10,000 

Dividend of 5% declared this day on capital 
stock of the Company. Payable in cash 
January 15, 1916. 

Second Entry January 13, 1916 

Cash $10,000 

To Notes Payable $10,000 

Three months' note discounted at First 
National Bank to secure funds for pay- 
ment of dividend due January 15. 



1 4 4 SPECIAL ENTRIES 

Third Entry 

January 13, 1916 

Discount $150 

To Cash $150 

Discount at 6% on Company's three months' 
note of $10,000. 

Fourth Entry 

January 15, 1916 

Dividend Payable $10,000 

To Cash $10,000 

Payment of dividend of 5% on capital stock 
of the Company. 

§ 127. Entries for Scrip Dividend 

Another way to pay a dividend when temporarily short 
of cash is by an issue of scrip. Scrip is a promissory note of 
a corporation, usually bearing interest, and falling due upon 
a specified date, or after a specified occurrence, as for in- 
stance when a proposed bond issue shall have been sold. 
The scrip is in the form of certificates, on which appear the 
company's promise to pay the money and the various terms 
of the contract. These certificates sometimes call for or are 
convertible into stock of the company, and such scrip some- 
times participates in dividends. The scrip certificates are 
frequently transferable, and pass by assignment from hand 
to hand in the open market. 

The Novelty Manufacturing Company with a capital 
stock of $1,500,000, $1,000,000 being common stock and 
$500,000 preferred stock, declares its regular annual divi- 
dend of 3% on both issues, payable in scrip. Dividend de- 
clared May 15, 19 1 6, payable June 15, 1916; scrip payable 
in cash June 15, 191 7. 

The journal entries for the declaration and payment of 
this annual 3% scrip dividend on the common and pre- 
ferred stock are as follows: 



DIVIDENDS AND THEIR ENTRY I45 

First Entry 

May 15, 1916 

Surplus $45,000 

To Dividend — Common $30,000 

" Dividend — Preferred 15,000 

Annual dividend of 3% on both common and 
preferred stock declared this day, payable 
June 15, 1916, in scrip of' the Company, 
maturing June 15, 1917 and bearing interest 
at 5%. 

Second Entry 

June 15, 1916 

Dividend — Common $30,000 

Dividend — Preferred 15,000 

To Dividend Scrip (or Scrip Payable)... $45,000 

Dividends paid this day in scrip maturing 
June 15, 1917 and bearing interest at 5%. 

When the scrip matures, an entry similar to the follow- 
ing is necessary : 

June 15, 1917 

Dividend Scrip $45,000 

Interest * 2,250 

To Cash $47,250 

For payment of dividend scrip maturing to- 
day, with interest from June 15, 1916 at 5%. 

§ 128. Entries for Special and Interim Dividends 

Occasionally, after a very prosperous year or a longer 
period of prosperity, during which a large surplus has been 
accumulated, the directors declare a "special dividend" or 
"bonus" in addition to the regular dividend. This is com- 
monly called "cutting a melon." Sometimes the employees 
of the company are given a portion of the "melon," in 
which case the process is known as "profit-sharing." 

To illustrate the entry of such dividends, assume that a 



146 SPECIAL ENTRIES 

corporation with $1,000,000 capital stock, and profits for 
the year of $125,400, declares its regular annual dividend of 
7% and at the same time declares a "special dividend" of 
2%, and awards to its employees a bonus of 10% of the 
net earnings of the year just ended. The entries are as 
follows : 

t January 4, 1916 

Surplus $102,540 

To Dividend No. 17 $70,000 

" Special Dividend No. 1 20,000 

" Bonus to Employees 12,540 

As per resolution passed this day by the 
board of directors declaring the regular 
annual dividend of 7% on the capital 
stock of the Company; an additional 
dividend of 2%; and awarding to the 
employees a bonus of 10% of the net 
earnings of the year just ended; all pay- 
able in cash on the 15th day of January, 
1916. 

January 15, 1916 

Dividend No. 17 $70,000 

Special Dividend No. 1 20,000 

Bonus to Employees 12,540 

To Cash $102,540 

For payment of dividends and bonus pro- 
vided for in resolution of the board of 
directors passed January 4. 

Dividends declared between the regular dividend dates 
are called "interim dividends," and are declared when un- 
usual profits exist to justify a special dividend, or when for 
some reason it is desired to anticipate the regular dividend in 
whole or in nart. When dividends are paid quarterly, as 
is the case with most of the larger corporations, an interim 
dividend is seldom if ever declared. The entries in case of 
interim dividends, would of course be identical to those of 
a regular dividend. 



CHAPTER X 

DIVIDENDS AND THEIR ENTRY 
(Continued) 

§ 129. Entries for Dividends Applied to Stock Subscriptions 

As a declared dividend is a debt due from the corpora- 
tion to the stockholder, any indebtedness of a stockholder 
to the corporation may be set off against his dividend and 
be deducted from it, provided the debt is actually due at the 
time the dividend is payable. Accordingly, the corporation 
has full power to apply dividends in payment of amounts 
due on subscriptions to its stock. 

It may be noted that a contract between the corporation 
and a subscriber to its stock providing that his subscription 
shall be paid by dividends on the stock subscribed for, is 
absolutely invalid both as against the corporation and against 
corporate creditors. Under such an agreement, any credits 
of declared dividends actually made would be held a valid 
payment, but in case of the insolvency of the corporation 
before the stock was full-paid, the stockholder could be 
called upon to pay in cash all amounts still due on his sub- 
scription, and this regardless of the agreement that it was 
to be paid by dividends. 

To illustrate the entries when dividends are to be applied 
on a stock subscription, let us suppose that $200,000 par 
value of new stock of the Kanawha Iron Works (shares $50 
each) has been offered for sale to provide funds for the 
erection of additional buildings; that all this has been sub- 

147 



I4 g SPECIAL ENTRIES 

scribed, and a first instalment of 50% has been paid upon 
it. John Smith is a subscriber for 10 shares. On January 5, 
19 1 7, the board of directors passes a resolution calling for 
the final instalment of 50% on the entire subscribed stock, 
payable February 1. On February 3, at which time John 
Smith has not paid the final instalment on his stock, the 
directors declare an annual dividend of 5% on the entire 
outstanding stock ($500,000) as of January 1, payable 
February 15. The entries for these transactions are as 
follows : 

First Entry 

January 5, 1917 
Final Instalment on Stock (or Instalment No. 2) $100,000 

To Subscriptions $100,000 

As per resolution passed this day by the 
board of directors, calling for the final 
instalment of $100,000 on $200,000 of 
capital stock of the Company. 

This entry will close the Subscription account, substi- 
tuting for it the Final Instalment account. Assuming that 
all the stockholders have paid the first instalment in full, 
the First Instalment account is already closed. 

Second Entry 

February 1, 1917 

Cash $99,750 

To Final Instalment on Stock $99,750 

Payment of final instalment on capital stock. 

This, of course, would be comprised in cash book entries 
showing the names of the stockholders and amount paid 
by each. To simplify the illustration, it is assumed that all 
except John Smith had paid at the time of declaring the 
dividend. 



DIVIDENDS AND THEIR ENTRY I49 

Third Entry ^ , 

February 3, 1917 

Surplus $25,000 

To Dividend No. 5 $25,000 

The board of directors have this day declared 

the regular annual dividend of 5% on the 

capital stock of the Company, payable in 

cash on the 15th day of February. 

Fourth Entry ^ , 

J February 15, 1917 

Dividend No. 5 . $24,975 

To Cash $24,975 

Dividend paid this day as per resolution of 

the board of directors, February 3. 

Fifth Entry „ , 

February 15, 1917 

Dividend No. 5 $25 

To Final Instalment on Stock $25 

To apply dividend of John Smith as part pay- 
ment of final instalment of $250 due on 10 
shares of capital stock of the Company. 

§ 130. Entries for Cumulative Dividends 

Preferred dividends for the current year must be paid 
before dividends may be paid the holders of common stock ; 
and if the preferred stock is "cumulative," all dividends on 
it which have been "passed" in former years must also be 
paid in full before the common stock can participate. If 
the provisions by which the preferred stock is created do not 
state whether it is cumulative or non-cumulative, it is treated 
as cumulative. 

To illustrate the difference between the two kinds of 
stock, suppose a company with preferred stock calling for 
7% dividends has "passed" all dividends for two years, and 
at the end of the third year desires to pay a dividend on the 
common stock. If the preferred stock is cumulative, it 
will first have to pay all the "passed" dividends on the pre- 



150 SPECIAL ENTRIES 

f erred stock amounting to 14%, and the current dividend 
as well — 21% in all; while, if the preferred stock is non- 
cumulative, it need only pay the current dividend of 7%. 

Although the preferred stock dividends must be paid 
before the common stock can receive any share of the profits 
of the corporation, these dividends do not become an obliga- 
tion of the company until they are formally declared by the 
board of directors. It would seem, therefore, to be poor 
accounting to enter them on the books as an obligation at 
the time they are "passed," although this is sometimes done. 
It is necessary, however, that the unpaid cumulative divi- 
dends be shown on the balance sheet, and this is best done 
by means of a footnote stating the contingent liability for 
the dividends which have been "passed." 

Where a preferred dividend is passed but it is desired 
that it be shown on the books, it may be done by an entry 
similar to the following: 

Surplus $30,000 

To Unpaid Preferred Dividend $30,000 

For 1916 preferred dividend of 6% not de- 
clared by the board of directors but ordered 
to be shown upon the books. 

This might make the Surplus account show a debit bal- 
ance, and in any event it would be reducing surplus for 
the sake of a liability which was only contingent. Instead 
of charging the dividend against surplus, it might therefore 
be a better plan to set up the following nominal asset account 
to offset the contingent liability of the unpaid preferred 
dividend : 

Dividends — Preferred Stock $30,000 

To Unpaid Preferred Dividends $30,000 

For 1916 preferred dividend of 6% not de- 
clared by the board of directors but ordered 
to be shown upon the books. 



DIVIDENDS AND THEIR ENTRY 



I5 1 



§ 131. Entries for Stock Dividends 

Sometimes the directors declare instead of a cash divi- 
dend, what is known as a "stock dividend." There may be 
stock in the company's treasury, donated or purchased, that 
may properly be divided among the stockholders in the form 
of a dividend. Or unissued stock may be issued for the 
purpose, or new stock may even be created. The directors 
are perfectly justified in using such stock for dividends, pro- 
vided there are undivided profits of an amount equal to the 
face value of the stock issued as dividends. To illustrate 
the entries, suppose that the Michigan Furniture Company, 
with an authorized capital stock of $1,000,000, has had a 
very prosperous year, its profits amounting to over $100,- 
000, but the directors desire to invest most of their available 
funds in additional shops and machinery. Their regular 
annual dividend is 10%. Only one-half of the authorized 
capital stock has been issued, so they declare the regular 
10% dividend but make it payable in stock of the company. 

First Entry 

Surplus $50,000 

To Dividend No. 4 $50,000 

A dividend of 10% on the $500,000 outstanding 
capital stock of the Company has this day 
been declared by the directors, payable in 
stock of the Company. 

Second Entry 

Dividend No. 4 $50,000 

To Capital Stock $50,000 

Stock issued to pay stock dividend of 10%. 

If the unissued stock is being carried on the books in 
Unissued or Unsubscribed Stock account, the second entry 
would be a credit to that account. If the dividend were paid 
out of treasury stock, Treasury Stock account would, of 
course, be credited. 



I5 2 SPECIAL ENTRIES 

§ 132. Entries for Bond Dividends 

Corporate bonds may, at the discretion of the directors, 
take the place of cash in the payment of dividends, provided 
only that they are issued against actual profits. In other 
words, if there are profits from which dividends may be 
legally paid, the directors may pay them in cash, in stock, 
in bonds, or in any other available property owned by the 
corporation. To payment in bonds, however, there are two 
practical objections which do not exist in the case of stock 
dividends : ( 1 ) bonds bear interest which becomes a fixed 
charge as soon as it is due, and (2) they are an absolute 
obligation of the corporation which must be paid at ma- 
turity. 

It is not unusual for short term notes or debenture bonds 
to be issued in payment of dividends where it seems pre- 
ferable to conserve the cash for working purposes; but 
even this is a somewhat extreme measure unless it be for 
payment of cumulative dividends. 

Suppose that in the preceding example the directors, 
with the consent of the stockholders, had paid the dividends 
in bonds, the entries would be as follows : 



Surplus $50,000 

To Dividend No. 4 $50,000 

A dividend of 10% on the capital stock of the 
Company has this day been declared by the 
directors, payable in the first mortgage 
treasury bonds of the Company. 



Dividend No. 4 $50,000 

To First Mortgage Treasury Bonds $50,000 

First mortgage 4% treasury bonds given to 
stockholders in payment of 10% dividend 
on the stock of the corporation. 



DIVIDENDS AND THEIR ENTRY 



153 



§ 133. Bank Dividends 

Banks pay dividends on their stock with checks drawn 
on themselves (cashiers' checks), and this makes the book- 
keeping entries slightly different from those of other com- 
panies. The first entry is : 

Undivided Profits $50,000 

To Dividend No. 34 $50,000 

For dividend of 5% declared this day by the 
directors on the capital stock of the bank. 

The charges to Dividend account come from the cash 
book as the dividend checks are presented for payment at the 
paying teller's window or through the clearing house. The 
balance of Dividend account, therefore, shows the amount 
of dividend checks outstanding, and appears on the balance 
sheet as "Unpaid Dividends." 

§ 134. Property Dividends 

Dividends, as already stated, may consist of any kind 
of corporate property, though, except in the case of cor- 
porate securities, there are obvious difficulties in the way of 
distribution which make such dividends rare. Thus, a com- 
pany whose profits were in land might divide this land 
among its stockholders as a dividend, if it were practically 
possible, and no objection could be raised. The more usual 
form of property dividend is, however, that of securities 
of other corporations purchased at some previous time for 
investment, or received when the corporation sells rights of 
some kind to another corporation, taking the stocks and 
bonds of that other corporation in payment. In 19 16 one 
of the great manufacturers of war supplies paid a dividend 
in Anglo-French 5% Bonds. 

Property dividends are also declared when a corporation 
is liquidated, all of its property, perhaps, having been ex- 



154 



SPECIAL ENTRIES 



changed for stock or bonds, or both, of the purchasing com- 
pany. In this case the distribution is not, strictly speaking, 
a payment of dividends, but is a distribution of assets, and 
the ordinary rule that dividends may be declared only from 
profits does not apply. 

§ 135. Unearned Dividends 

Although the laws of all of the states forbid the payment 
of dividends if such payment results in the impairment of 
capital, there are more or less frequent evasions of this rule. 
The fact that a dividend has been paid out of capital may 
not be known to anyone except the directors; in fact, the 
directors themselves are sometimes ignorant of such an 
occurrence, owing to the fact that they will not take the 
trouble, or have not sufficient knowledge of accounting, to 
inform themselves of the true condition of the company. 
Yet they may be held liable by the courts for any loss to 
creditors occasioned by the payment of dividends out of 
capital. 

Errors as to profits may arise from many causes. The 
books of the company may perhaps show a surplus of earn- 
ings which in reality does not exist, because no provision 
has been made for bad debts or depreciation; or materials 
have been included in the inventories which have not yet 
been credited to Accounts Payable; or materials have been 
valued at the selling price ; or orders for future delivery may 
have been booked as sales ; the book value of real estate may 
have been written up ; assets with no value, such as patents 
and copyrights which have expired, may still be carried upon 
the books; judgments against the company may have been 
omitted from the accounts. These and other errors may 
have been made which hide the fictitious character of the 
apparent profits, so that the payment of dividends under 
such conditions results in an impairment of capital. An ex- 



DIVIDENDS AND THEIR ENTRY 



155 



amination by a competent auditor, however, would disclose 
any such errors and prevent the declaration of illegal 
dividends. 

In case dividends were declared which impaired the 
capital, and the company were forced into the hands of a 
receiver or into bankruptcy before the deficit was made up, 
the directors would be personally liable for the amount of 
the illegal dividends. 

In case accounting errors are discovered which have 
resulted in a fictitious surplus, the proper charges must be 
made to show the true condition. This may, if dividends 
have been declared or other expenditures have been made 
on the strength of the supposed surplus, result in a debit 
balance in Surplus account. It is perfectly proper to allow 
this debit balance to remain on the ledger until wiped out 
by the accumulating profits, but in the balance sheet it should 
be placed on the asset side and called "Deficit"; yet in 
financial statements it is not unusual to see it deducted from 
the capital stock. 



CHAPTER XI 

PROPRIETORSHIP INCORPORATED 
(NEW YORK) 

§ 136. Organization Procedure 

The organization details outlined in Chapters XI to 
XIII are in accordance with the laws of the states in 
which the corporations discussed are respectively incor- 
porated. Of course, an attorney will be retained when an 
incorporation is to be made, and on him rests the direct 
responsibility for the technical details; but the accountant 
should have at least a general knowledge of the required 
procedure. 

In New York the procedure in organizing a corporation 
is that which obtains in a majority of the states of the Union, 
and for this reason the present chapter discusses the forma- 
tion of a New York corporation in detail. 

§ 137. General Provisions 

A New York corporation need not limit itself to one 
object as in Pennsylvania and some other states, but may 
be formed to carry on as many different kinds of ordinary 
business as are set forth in the certificate of incorporation. 
The application for charter — which becomes the certificate 
of incorporation when allowed and filed by the Secretary of 
State — must be signed by three or more incorporators, who 
must be natural persons of full age, at least two-thirds of 
them citizens of the United States, and at least one a resident 
of the State of New York. Each incorporator must subscribe 
for one or more shares of stock. 

156 



PROPRIETORSHIP INCORPORATED 



157 



An organization tax of 1/20 of 1% of the total 
authorized capital stock must be paid to the State Treasurer. 
The Secretary of State's fee for filing the certificate of in- 
corporation is $10, and for recording, 15 cents per folio of 
100 words. The fee of the county clerk for filing the 
certificate is 6 cents, and for recording, 10 cents per folio. 

There are frequently, of course, other expenses incident 
to incorporation, which must be assumed by the incorpora- 
tors or by the attorney in charge, and for which they bill the 
corporation after its organization. 

§ 138. Financial Details of the Incorporation 

Charles W. Hampton has been conducting a wholesale 
and retail mercantile business for the past ten years in the 
City of New York. He wishes to bring other parties into 
the business, and with this in view has decided to incorporate 
as of June 4, 1916, under the name of the "Hampton Trad- 
ing Corporation," with a capital stock of $250,000, con- 
sisting of 2,500 shares of the par value of $100 each. The 
shares have been subscribed for as follows : 



Name 


Address 


Shares 


Amount 


Charles W. Hampton 


New York City 


1,250 


$125,000 


Samuel Johnson 


M 


500 


50,000 


James J. Miller 


it 


500 


50,000 


Lincoln Webster 


Albany, New York 


100 


10,000 


Robert W. Kester 


" 


100 


10,000 



Hampton is to receive 1,250 shares of full-paid stock in 
exchange for his business, buildings, stock, and equipment, 
including the various assets and liabilities as per the accom- 
panying balance sheet. The business of Hampton is to be 
taken over as soon as possible after the first meeting of the 
directors, at which time the other subscribers to the stock 
of the company will pay 50% of their subscriptions, the 
remainder to be paid August 9, 19 16. 



I5 8 SPECIAL ENTRIES 

Charles W. Hampton 
Balance Sheet, as of June i, 1916 



Assets 




Liabilities 




Real Estate: 




Mortgage on Warehouse $25,000.00 


Land, Store, and 


Loans from Bank 


10,000.00 


Warehouse 


. $80,000.00 


Notes Payable 


17,750.00 


Store Equipment 


8,500.00 


Accounts Payable 


22,800.00 


Delivery Equipment. . . 


9,000.00 








Office Equipment 


4,400.00 


Total Liabilities.. . 


$75,550.00 


Merchandise 


. 46,300.00 


Charles W. Hampton : 




Accounts Receivable.. 


. 16,400.00 


Capital Account 


100,000.00 


Notes Receivable . 


9.350.00 


Personal Account... 


5,140.00 


Cash 


6,740.00 








$180,090.00 


$180,690.00 



Note: A good-will of $19,860 is to be included in the above to 
provide full payment for $125,000 of stock in the new company. 

§ 139. Certificate of Incorporation 

This is usually executed in duplicate, signed by at least 
three subscribers to the stock of the proposed corporation, 
and then duly acknowledged by them before a notary. The 
directors for the first year are named in the certificate, and, 
if the certificate or by-laws so provide, directors need not 
be stockholders. The certificate of incorporation must 
contain : 

1. The name of the proposed corporation, which must 

indicate that it is a corporation and must not con- 
flict with that of any existing corporation. 

2. The purpose or purposes for which it is to be formed. 

3. The amount and kind of capital stock. 

4. The number of shares, each of which shall not be 

less than $5 nor more than $100; and the amount 
of capital, not less than $500, with which it will 
begin business. 



PROPRIETORSHIP INCORPORATED 



159 



5. The location of the principal business office. 

6. Its duration, which may be perpetual. 

7. The number of directors (not less than three). 

8. The names and post-office addresses of the directors 

for the first year. 

9. The names and post-office addresses of the subscrib- 

ers to the certificate, and the number of shares 
which each agrees to take in the corporation. 

The certificate should also set forth if power is desired 
to hold the stock of other corporations ; if cumulative voting- 
is desired ; if the voting power of the stockholders shall be 
limited in any way, and that directors need not be stock- 
holders, if this is desired. It may also contain any provisions 
for the regulation of corporate affairs, and any desired 
limitations on the powers of the directors and stockholders 
which do not conflict with the laws. 

The charter of the Hampton Trading Corporation will 
be found in the Appendix, Form 1. 

§ 140. Filing the Certificate of Incorporation 

One of the duplicate originals of the charter is sent to 
the Secretary of State at Albany with a check or money 
order for the amount of the filing and recording fees 

(§ 137)- 

At the same time a check or money order for the organi- 
zation tax (§ 137) is sent to the State Treasurer at Albany. 
The Secretary of State, if he finds the certificate of incorpor- 
ation to be in proper shape, notifies the State Treasurer, who 
issues duplicate receipts for the organization tax, one of 
which he delivers to the Secretary of State, forwarding 
the other to the person who paid the tax. The Secretary of 
State then records the certificate of incorporation and gives 
notice of its filing to the person from whom it was received. 



rto SPECIAL ENTRIES 

The other duplicate original certificate of incorporation, 
signed and acknowledged as was the original, must be filed 
in the office of the clerk of the county in which the principal 
office is located. To this must be attached the duplicate 
receipt for organization tax received from the State Treas- 
urer, and the certificate must be accompanied by the proper 
fees. 

The formal incorporation of the company is now com- 
pleted. Frequently an extra copy of the original certificate 
of incorporation is forwarded tO' the Secretary of State at 
the same time the original is sent, with the request that he 
certify and return it. The fees for such certification are 1 5 
cents for each 100 words, and $1 for affixing the seal. This 
gives a certified copy which is legal evidence of the due 
incorporation of the company. 

§ 141. First Meeting of Stockholders 

There is no statutory or other requirement that a meet- 
ing of the stockholders be held as a part of the organization 
procedure, as the directors for the first year are named in 
the charter and these directors have, in all ordinary cases, 
full power to do everything necessary to organize the com- 
pany. It is, however, customary for the incorporators — 
who are the subscribers to the stock of the corporation men- 
tioned in the certificate of incorporation, and who become 
the legal stockholders of the corporation as soon as the 
charter is granted — to meet when the certificate has been 
filed in the county clerk's office. At this meeting by-laws 
are adopted, and resolutions are passed authorizing the issue 
of stock for cash or for property, or both. When property 
is to be taken over in payment for stock, a stockholders' 
resolution authorizing the exchange and the acceptance of 
the property by the directors, though not essential, is 
desirable. 



PROPRIETORSHIP INCORPORATED j6i 

§ 142. Minutes of First Meeting of Stockholders ; By-Laws 

The first meeting of stockholders is, as intimated, 
ordinarily a mere formal affair, at which by-laws already 
prepared are adopted and such other action is taken as may 
have been previously agreed upon. The first meeting of 
stockholders is usually assembled by means of a written 
"Call and Waiver of Notice." The minutes of the first 
meeting of stockholders of the Hampton Trading Corpora- 
tion are shown in Form 4 of the Appendix. Proxy for 
this meeting is shown in Form 5 ; call and waiver of notice, 
in Form 6. 

The by-laws shown in Form 2 of the Appendix, while 
brief, are sufficient for the needs of any corporation of 
medium size. They meet the requirements of the New York 
statutes, and may be adapted to meet any special require- 
ments of other states or of corporations of other purposes. 
For large corporations more elaborate forms of by-laws are 
required, in which the details of corporate procedure are 
set forth much more fully. Such by-laws may be found in 
any of the standard works on corporate organization and 
procedure.* 

Occasionally a certified copy of the by-laws is required, 
or extracts from them must be certified. In such case, the 
general form of certification shown in Form 3 of the Appen- 
dix will usually be found sufficient. 

§ 143. Minutes of First Meeting of Directors; the Stock 
Book 

The first meeting of directors usually follows closely the 
first meeting of stockholders. The minutes shown in Form 
7 of the Appendix cover in detail the usual procedure. 

The procedure outlined completes the organization of 
the company : the business of Hampton has been taken over 

*See Conyngton's "Corporate Organization." 



!62 SPECIAL ENTRIES 

in payment for stock, the first instalment on stock subscrip- 
tions has been received, and the various organization 
expenses have been paid. It is now necessary to complete 
the official records and make the opening entries in the books 
of account. 

The New York statutes require that every stock cor- 
poration shall keep at its office correct books of account of 
all its business and transactions, and a book to be known 
as the stock book (§§ 65, 66), containing the names, alpha- 
betically arranged, of all persons who are stockholders of 
the corporation, their place of residence, the number of 
shares of stock held by each, the date of purchase, and the 
amount paid thereon. Also the statutes require that this 
stock book shall be open daily during at least three busi- 
ness hours, for the inspection of the corporation's stock- 
holders and judgment creditors, who may make extracts 
therefrom. The corporation or officers refusing or neglect- 
ing to exhibit the books or permit extracts to be taken there- 
from as provided by the statutes, are liable to a penalty of 
$50 for each day of neglect or refusal. 

The proper stock book entries should be made at the 
time the stock certificates are issued, and afterward at the 
time transfers are made. The form of stock book to be 
used in New York is prescribed by the Comptroller and is 
shown in § 66. 

§ 144. Journal Entries 

The opening entries in the books of account should now 
be made, according to the plan adopted by the accountant. 
A matter of prime importance here is the inclusion of ade- 
quate and complete explanations. Vague or incomplete 
records should not be tolerated. 

In the opening entries which follow, the accounts of in- 
corporators are entered in the general ledger. This would 



PROPRIETORSHIP INCORPORATED ^ 

not be advisable if the number of incorporators or sub- 
scribers to be entered were large. Other opening entries 
which accomplish the same end in a somewhat different 
manner will be found in Chapter VII, "Stock of Original 
Issue." 

The following entries for stock subscriptions and for 
taking over the assets and liabilities in payment are made 
as of June 9, 1916, the date of organization: 

June 9, 1916 

Charles W. Hampton $125,000 

Samuel Johnson 50,000 

James J. Miller 50,000 

Lincoln Webster 10,000 

Robert W. Kester 10,000 

Unissued Stock 5,000 

To Capital Stock $250,000 

Hampton Trading Corporation, incorporated 

with an authorized capital of $250,000, 

divided into 2,500 shares of $100 each, 

subscribed for as follows : 

Charles W. Hampton 1,250 shares 

Samuel Johnson 500 " 

James J. Miller 500 " 

Lincoln Webster 100 " 

Robert W. Kester 100 

Unissued Stock 50 " 

Subscriptions payable 50% in cash and 

balance August 9, 1916. 

At the time of incorporation, certain necessary expenses 
must be advanced by the incorporators or by the attorney in 
charge. These are reimbursed after organization. All cash 
entries are given in the cash book shown below. The only 
remaining journal entry required is that recording the trans- 
fer of assets and liabilities from Hampton to the corporation, 
as follows: 



j6 4 special entries 

Plant and Sundry Assets $200,550 

To Sundry Liabilities and Subscription.. $200,550 

Assets 

Real Estate $80,000 

Store Equipment 8,500 

Delivery Equipment 9,000 

Office Equipment 4,400 

Merchandise 46,300 

Accounts Receivable 16,400 

Notes Receivable 9,35° 

Cash 6,740 

Good- Will 19,860 

Liabilities and Subscription 

Mortgages Payable $25,000 

Bank Loans 10,000 

Notes Payable I 7 J 75° 

Accounts Payable 22,800 

Charles W. Hampton 125,000 

For the entire assets and liabilities of 
Charles W. Hampton, taken over this day 
in full payment of his subscription. A 
good-will of $19,860 is allowed over and 
above the net worth indicated by his 
balance sheet. (See minutes of stock- 
holders and of directors for authority 
and for further details.) 

As will be seen, the cash turned over by Hampton is 
included in the journal entry, in order to show all of the 
assets and liabilities together. This plan, which obviates the 
necessity of splitting entries, is to be favored for it sets forth 
the entire transaction. The cash account is ticked in the 
journal, and the general ledger account is the cash book, to 
indicate that they are not to be posted. If this were not 
done, the items might be posted from both books. 



PROPRIETORSHIP INCORPORATED 



165 



§ 145. Cash Book Entries 

Cash Book 



1916 




1916 






June 9 Samuel Johnson 


June 9 


Organizing Expenses : 




(Paid on June 




Organization 






2) $500.00 




Tax 


$125.00 




Charles W. 




Filing Certifi- 






Hampton (Bal- 




cate 


10.00 




ance trans- 




Recording Fees 


20.00 




ferred) 6,740.00 




Counsel's Fee.. 


250.00 




Samuel Johnson. 24,500.00 




Accountant's 






James J. Miller.. 25,000.00 




Fee 


250.00 




Lincoln Webster. 5,000.00 




Other Outlays. 


200.00 




Robert W. Kes- 




Balance 


65,885.00 




ter 5,000.00 










(Payment of first 










instalment of 










50% on sub- 










scriptions to 










stock.) 




$ 






$66,740.00 


566,740.00 



§ 146. Other Entries 

The necessary entries have now been made in the journal 
and cash hook, and the accounts called for by these entries 
must be opened in the general ledger. An account should 
also be opened for unissued stock. The subscribers' accounts 
will be credited and cash debited, through the cash book, 
when the final payments are made August 9, 19 16. 

There is nothing unusual in the form of any of these 
ledger accounts and they are not shown here in account form. 

In the stock ledger, records of the stock holdings of each 
subscriber must appear. Instalment receipts must be issued 
as payments are received, and stock certificates made out 
when the final payments are made. It is the duty of both 
the attorney and accountant to see that the general pro- 
cedure is in accordance with legal and business requirements. 



CHAPTER XII 

MANUFACTURING AND MINING 
CORPORATIONS 

Manufacturing Corporation 

§ 147. Details of Incorporation 

The preliminary organization of the Rockwell Manufac- 
turing Company, of Philadelphia, Pennsylvania, is effected 
March 2, 19 16. The company is to be incorporated for the 
manufacture and sale of household furniture, with a capital 
stock of $100,000, consisting of 1,000 shares of the par 
value of $100 each. The incorporators and the number of 
shares subscribed for by each are as follows : 



Name 


Address 


Shares 


Amount 


George Rockwell 


657 Broad St., Philadelphia 


400 


$40,000 


Jane Rockwell 


657 Broad St., Philadelphia 


200 


20,000 


Henry Lindon 


1415 Market St., Philadelphia 


300 


30,000 


Thomas J. Peterson 


Harrisburg, Pa. 


100 


10,000 



The first instalment of 10%, as required by the Penn- 
sylvania law, has been paid in cash. Immediately after the 
date of final organization, another payment of 50% will 
be due, and the balance will be payable one month there- 
after. 

§ 148. Statutory Records 

After the organization has been completed and all re- 
quirements complied with, it is in order to make the neces- 
sary records in the books of the corporation. In Pennsyl- 
vania the statutes provide that either the treasurer or secre- 

166 



MANUFACTURING CORPORATION 167 

tary shall keep at the office of the principal place of business 
a book containing the names of all persons who are, or 
who within one year shall have been, stockholders of such 
company, showing the number of shares held, when they 
became owners thereof, the amount paid in, etc. This book 
is to be open for inspection during business hours. It is 
obvious that the stock ledger shown in § 66 would meet the 
statutory requirements. 

§ 149. The Books of Account 

Books of account are not prescribed by statute, but a 
complete set of books should be provided, and they must, 
of course, be properly kept. The opening entries for journal 
and cash book are shown on the following pages, including 
payment of the first and second subscription instalments and 
the customary expenses at the time of incorporation. Ac- 
counts with stockholders must be opened in the stock ledger, 
instalment receipts issued, and the stock certificate book 
made ready for use as soon as the instalments are com- 
pleted. 

§ 150. Journal Entries 

For opening entries, the plan that will best suit the case 
of the particular corporation should be adopted. Since there 
are only a few subscribers to stock, separate subscription and 
instalment registers are not necessary, as their names can 
be entered in the subscription and instalment accounts. 

It will be noted that the first cash was received March 
2, 19 1 6, the date of application for charter. Since, however, 
the corporation does not come into legal existence until the 
charter is granted, it would seem desirable to make the 
opening entries on March 23, the actual date of organiza- 
tion. Entries should state all details fully, however, and 
give the dates of any payments already made. 



1 68 SPECIAL ENTRIES 

First Entry 

March 23, 1916 

Subscriptions $100,000 

To Capital Stock $100,000 

Incorporation of the Rockwell Manufactur- 
ing Company with a capital stock of 

$100,000, shares $100. Subscriptions as 

below (under date of March 12, 1916) on 

terms of 10% down, 50% on date of 

organization, and the balance in one 

month : 

George Rockwell 400 shares 

Jane Rockwell ' . 200 " 

Henry Lindon 300 " 

Thomas J. Peterson 100 " 

The first instalment of 10% having- been paid at the 
time of incorporation, is entered directly in the cash book, 
as shown herewith. Next, under the same date, make an 
entry for the second instalment as below. The first instal- 
ment might, of course, be put through the journal in like 
manner, but, as it has already been paid, the cash book entry 
would seem to be all that is necessary. We might also omit 
the entry for Instalment No. 2 and let that likewise be 
credited to Subscriptions through the cash book. 

Second Entry 

March 23, 1916 

Instalment No. 2 $50,000 

To Subscriptions $50,000 

For second instalment, being 50% of the 
amount subscribed : 

George Rockwell $20,000 

Jane Rockwell 10,000 

Henry Lindon 15,000 

Thomas J. Peterson 5,000 

Also, if an instalment register (§ 58) is used, the 



MANUFACTURING CORPORATION 



169 



journal entries for instalments would usually be omitted, 
and payments credited directly to Subscriptions account 
through the cash book. When Instalment No. 3 becomes 
due in one month, it will be treated in the same manner as 
Instalment No. 2. 

To complete the accounting" records it is not necessary 
to open accounts for the individual stockholders in the stock 
ledger, though this might be necessary in some states to 
comply with the statutory requirements. A stock account 
for George Rockwell follows : 







rff/nae/f^rJ^nay 


fat 






\&\ §nAtuV& Ghlaiki^^x/, 










CERTIFICATES CANCELLED 


CERTIFICATES ISSUED 


DATE 


JOURNAL 
FOLIO 


CERTIFICATE 
NUMBER 


NO. OF 
SHARES 


DATE 


JOURNAL 
FOLIO 


CERTIFICATE 
NUMBER 


NO. OF 
5HARES 












%0A, 


ft 


a 


/ 


doo 


























































































































.. — — 




1 — ^^^ _ *— «^^_ 




































































' 



































Stock Ledger 'Account 



Stock certificates should not be issued until the final 
instalment is paid. 



170 



SPECIAL ENTRIES 



§151. Cash Book Entries 

Cash Book 





Receipts 






Payments 




1916 






1916 






Mar. 2 


Subscriptions, 
10% paid in 




Mar. 23 


Incorporation 

Expenses : 






by: 






Charter Fee 


$30.00 




George Rock- 






Bonus on Capital 


200.00 




well 


$4,000.00 




Recording Fees.. 


2.50 




Jane Rockwell 


2,000.00 




Counsel 


100.00 




Henry Lindon 


3,000.00 




Accountant 


100.00 




Thomas J. 






Equipment 


100.00 




Peterson ... 


1,000.00 




Expenses 


35-00 


Mar. 23 


Instalment No. 
2, 50% : 
George Rock- 
well 

Jane Rockwell 

Henry Lindon 

Thomas J. 

Peterson ... 


20,000.00 
10,000.00 
15,000.00 

5,000.00 









§ 152. The Ledger Accounts 

Capital Stock 



1916 

Mar. 23 Subscriptions $100,000.00 



Subscriptions 



1916 


1916 


Mar. 23 Capital Stock : 


Alar. 2 Cash, 10% $10,000.00 


George Rock- 


Mar. 23 Instalment No. 


well $40,000.00 


2, 50 % 50,000.00 


Jane Rockwell 20,000.00 




Henry Lindon 30,000.00 




Thomas J. 




Peterson 10,000.00 





MINING CORPORATION 
Instalment No. 2 — 50% 



171 



1916 


1916 






Mar. 23 Subscriptions, 50% : 


Mar. 


23 


Cash $50,000.00 


George Rock- 






(Payment may 


well $20,000.00 






be credited 


Jane Rockwell 10,000.00 






separately if 


Henry Lindon 15,000.00 






desired.) 


Thomas J. 








Peterson. . . . 5,000.00 








$50,000.00 


$50,000.00 



Instalment No. 3 — 40%' 

(Same form of account as for Instalment No. 2) 

Mining Corporation 

§ 153. Details of Incorporation 

To illustrate the opening entries for a mining company, 
assume that the Copper County Mining Company is to be 
incorporated under the laws of Michigan with an authorized 
capital stock of $50,000, consisting of 2,000 shares of $25 
each. The company is to take over from James R. Cooke 
and Frank Patterson, a partially developed copper mine 
located in Copper County, Michigan, and carrying with it 
200 acres of mineral land. The incorporators and the 
amount of stock subscribed for by each as of July 15, 19 16, 
are as follows : 



Name 


Address 


Shares 


Amount 


James R. Cooke 


Detroit, Michigan 


900 


$22,500 


Frank Patterson 


Calumet, " 


900 


22,500 


John H. Jerome 


Detroit, 


100 


2,500 


John H. Wilson 


«« u 


IOO 


2,500 



lj 2 SPECIAL ENTRIES 

The entire mine property is conveyed to the company by 
Cooke and Patterson in full payment for their subscriptions, 
and Jerome pays cash in full for his ioo shares. Wilson 
pays $100, but, failing to pay the balance, his stock is de- 
clared forfeited. Cooke and Patterson each donate 200 
shares of stock to the company, this stock to be sold for the 
purpose of providing working capital. Of the donated stock, 
200 shares are sold at $15 per share and 100 shares at $20 
a share. All this stock is paid for in cash. The sum of 
$2,000 has been paid out for development expenses, and 
$1,000 is paid on account of new buildings and construction. 
The various organization expenses have been paid by the 
incorporators, who are reimbursed after incorporation. 

§ 154. Opening Entries 

The books of account must contain a complete record of 
the business operations of the company. The official books 
and records to be kept by the secretary must be obtained 
and duly entered up. Opening entries for the corporation 
are made, under a slightly different plan from the preceding 
illustrations, as on July 15, 1916, the date of organization: 

July 15, 1916 

Unissued Stock $50,000 

To Capital Stock Authorized $50,000 

The Copper County Mining Company has this 
day been incorporated with a capital stock 
of $50,000, par value of shares $25 eacfi. 
(See minute book, page 4.) 

James R. Cooke $22,500 

Frank Patterson 22,500 

John H. Jerome 2,500 

John H. Wilson 2,500 

To Unissued Stock $50,000 

Subscriptions have been received as follows : 



MINING CORPORATION ij$ 

James R. Cooke 900 shares 

Frank Patterson 900 " 

John H. Jerome 100 " 

John H. Wilson 100 " 

Cash $2,600 

To John H. Jerome. $2,500 

" John H. Wilson 100 

For full payment of Jerome's subscription to 
100 shares of stock, as per agreement; pay- 
ment of $100 on Wilson's stock, balance to 
be paid in 10 days. 

Copper County Mine (or Mine Property, or Real 

. Estate) $45,000 

To James R. Cooke $22,500 

" Frank Patterson 22,500 

The Copper County Mine property and all 
improvements have this day been conveyed 
to the Company by Cooke and Patterson 
in full payment for their subscriptions to 
stock of the Company, 1,800 shares. By 
order of the directors. (See minute book, 
page 5-) 

Capital Stock Authorized $47,500 

To Capital Stock $47,500 

To transfer to Capital Stock account the 
amount of paid-up capital stock. 

Organization Expenses $325 

To Cash $325 

To cover various incorporating fees and ex- 
penses advanced by incorporators, $35 ; 
charges of attorney, $150; charges of ac- 
countant, $75; other preliminary expenses, 
$65. 

§ 155. Entries for Donated Stock 

When the stock is donated to the treasury of the Com- 



I74 SPECIAL ENTRIES 

pany, an entry is required debiting Treasury Stock and 
crediting ''Working Capital Donated" or "Donation" ac- 
count, as follows : 

Treasury Stock $10,000 

To Working Capital Donated $10,000 

For 400 shares of the Company's stock donated 
by James R. Cooke and Frank Patterson, 
200 shares each, to be sold to provide work- 
ing capital. 

The donated stock is placed in the hands of a trustee, 
usually one of the officers, appointed either by the donors or 
by the company. An account with this trustee is opened in 
the stock book and credited with the 400 shares donated. 
The stock book accounts of the donors are, of course, 
debited. The donated certificates are attached to their re- 
spective stubs in the stock certificate book and cancelled, but 
stock certificates need not be made out in the trustee's favor, 
as that necessitates the making of transfers each time a sale 
is made. As the stock is sold certificates are made out 
direct to the purchasers, but the record of issue, both in the 
stock certificate book and in the stock ledger, will show that 
the stock has been transferred from "Trustee" account. The 
following entries — most of them in the cash book — are 
necessary : 

Cash $3,000 

To Treasury Stock $3,000 

For the sale of 200 shares of treasury stock at 
$15 per share to the following persons: 
(Names entered here) 

Cash $2,000 

To Treasury Stock $2,000 

For sale of 100 shares of treasury stock at $20 
per share to the following persons : 
(Names here) 



MINING CORPORATION 



175 



Development Expenses $2,000 

To Cash $2,000 

Expenditures for developing the surface and 
entrance to the mine. 

Mine Construction (or Building and Improvements) $1,000 

To Cash $1,000 

Expenditures for construction purposes at the 
mine. 

Working Capital Donated $2,500 

To Treasury Stock $2,500 

To adjust difference between book price and sale 
price of the 300 shares of treasury stock 
already sold. 

§ 156. Entries for Forfeited Subscription 

The subscription of John H. Wilson was not completed, 
and after calling on Wilson for payment of the amount still 
due on his stock — $2,400 — without result, it was declared 
forfeited. It is debited back to Unissued Stock as follows : 

Unissued Stock $2,500 

To John H. Wilson $2,400 

" Profit on Forfeited Stock 100 

For 100 shares of stock subscribed for by John H. 
Wilson, on which but $100 was paid and the 
stock was therefore declared forfeited. 

The entry to be made for forfeited stock must obviously 
depend on the manner of making the opening entries. 

The $100 paid by Wilson is retained by the corporation 
and is credited at once to Profit on Forfeited Stock or to 
Profit and Loss. Before forfeiting stock for unpaid sub- 
scriptions, the statutes of the state should be consulted for 
the procedure required. In the absence of any such pro- 
vision, the stock may be forfeited when the subscriber, after 
demand therefor, refuses or is unable to pay the amount due. 



^6 SPECIAL ENTRIES 

Sometimes the forfeited shares are advertised for sale and 
sold to the highest bidder who in this case must offer at 
least $2,400. 

The foregoing - entries are for a mine with a small 
capitalization, but the general requirements are the same for 
any mining company. 

There are still on hand 100 shares of treasury stock 
which may be sold at an early date or held until it will sell 
for a higher rate or even a premium. In case the mine 
proves to be successful, there should be no difficulty in dis- 
posing of this stock at a higher price. The profit realized 
from the donation of stock may be transferred from Work- 
ing Capital Donated account to Surplus if so desired. 



CHAPTER XIII 

PARTNERSHIPS INCORPORATED 

The entries of the present chapter are those required 
for the amalgamation and incorporation of two Chicago 
partnerships which for a number of years have been success- 
fully conducting a manufacturing business. The entire 
business — plant, good-will, assets, and liabilities — of each 
concern is to be transferred to the new company in exchange 
for capital stock. Preliminary to this it is necessary to 
discuss briefly the general nature and treatment of good- 
will. 

§ 157. Good- Will 

"Good-will is the monetary value placed upon the con- 
nection and reputation of a mercantile or manufacturing 
concern, and discounts the value of the turnover of a busi- 
ness in consequence of the probabilities of the old customers 
continuing."* An eminent English juristt defines good- 
will as "every advantage . . . that has been acquired by 
the old firm in carrying on its business, whether connected 
with the premises in which the business was previously car- 
ried on, or with the name of the late firm, or with any 
matter carrying with it the benefit of the business." 

Lisle in his "Accounting in Theory and Practice," gives 
as the basis of the value of good-will, the place, the name, 
and the chance that no one connected with the old firm will 
step in to compete. There are other elements which enter 

*George Lisle in "Accounting in Theory and Practice." 
fVice-Chancellor, Sir W. Page Wood 

177 



17 S SPECIAL ENTRIES 

in, however ; such as the personnel of the concern, its trade- 
marks, etc. Although complex, good-will may be defined in 
general terms as the value of any benefits a business may 
enjoy or advantages it may possess, apart from its actual 
property or other tangible holdings. 

§ 158. Determination of the Value of Good- Will 

As a rule, the question of computing the value of good- 
will comes up only when a business is to be sold or its pro- 
prietorship transferred. Then arises the necessity of know- 
ing how much must be paid for that element in the business 
which is represented by the increase in its earning capacity. 
The business has property of a certain definite value. It 
also has profit-producing power beyond mere interest and 
replacement returns on the material value of the capital 
and property invested. This is the good-will ; and the price 
for which a business is sold will, of course, include this 
good-will, as will also the capitalization if the business is 
incorporated. 

Good-will is in many cases the most valuable asset of a 
large business. The Royal Baking Powder Company, when 
amalgamating with its competitors, is said to have valued 
the good-will carried by the word "Royal" at $12,000,000. 
The annual report of the B. F. Goodrich Company carries 
the item of "good-will" at $57,789,000, while real estate, 
plant, etc., are valued at $12,679,151, and patents at $583,- 
650. As the company has outstanding $60,000,000 common 
stock and $30,000,000 preferred, the good-will constitutes 
over 64% of the value back of the capitalization. 

It is customary to base the value of good-will upon the 
profits of a concern for a given number of years. The 
average profits for a period of from three to five years 
previous to the date of valuation are taken, and from these 
is deducted a fair percentage as interest on the original in- 



PARTNERSHIPS INCORPORATED iyg 

vestment of the proprietor, and a like deduction is made 
for his services. The sum that remains is the basis for 
determining the good-will. A wholesale or retail trading 
concern may fix the value of its good- will at from one to 
five years' profits; while in a professional business it is 
estimated at from one to two years' profits. The value may 
vary not only with the nature of the business, but also with 
the particular conditions under which it operates. In a 
business which has an absolute monopoly in one line, the 
good-will may well be considered as much larger than in 
the ordinary business ; again, a business which requires the 
personal attention of but one man is worth more than a 
business of equal turnover which takes up the entire atten- 
tion of two or three men. 

§ 159. Accounting Treatment of Good-Will 

Good-will is commonly regarded as a fixed asset, since 
it represents a definite capacity for earning. This capacity, 
although it may vary with business conditions, can never 
be said to depreciate in the accounting sense. Good- Will 
account, therefore, unless written off, or increased with the 
growth of the business, remains the same, showing on the 
debit side the amount originally paid for the good-will. 

Good-Will account in the case of corporations is also 
used at times as a convenient place in which to record over- 
capitalization or capitalization in excess of property values. 
When an incorporating concern has valued its actual prop- 
erty at a certain amount, its good-will is valued at such 
additional amount as will make the total capitalization of 
the company equal to the estimated value of the business. 
Good-will, then, being an elastic quantity, may easily be 
estimated at more than it is actually worth. Whether esti- 
mated conservatively or not, in all such cases the Good- Will 
account in the ledger shows the difference between the face 



^O SPECIAL ENTRIES. 

value of the capital stock and the value of the actual property- 
owned by the corporation. 

There is a tendency in modern business to dispense with 
good-will altogether, it being written off the books grad- 
ually. The General Electric Company and the Victor Talk- 
ing Machine Company have each written their good-will 
down to $1.00 at which amount it is being carried on the 
books. A possible reason for this is that the valuation of 
good-will being based on a given number of years' purchase 
of the profits of the vendor concern, less a fair return on 
capitalization, its cost is consumed concurrently with the 
efflux of the period for which it has been purchased. The 
general practice, however, is to regard the book value of 
good-will as unchangeable, simply representing the amount 
paid for it in the first place. 

§ 1 60. Conditions of the Incorporation 

In Illinois the entire capital stock must be subscribed and 
one-half paid up before the company is permitted to begin 
operations, and therefore the partnership agreements to take 
stock appear in the application for charter. The actual 
transfer of the partnership assets and liabilities to the cor- 
poration is not, of course, made until the latter is com- 
pletely organized and ready to enter into contracts. The 
transfer acts practically as a dissolution of the partner- 
ships. 

The change of ownership incident to the transfer of a 
partnership business to a corporation does not necessarily 
produce any change in the business or in the established 
policy of management; or even in the manner of keeping 
the books of account, except such changes as are necessary 
to adjust the capital account to the altered conditions. Dur- 
ing the process of the incorporation now to be considered, 
the partnerships go on with their operations as before, all 



PARTNERSHIPS INCORPORATED t8i 

of the output after the agreed date belonging to the corpora- 
tion. 

§ 161. Agreement for Incorporation 

Certain preliminary agreements have been entered into 
by the owners of the two concerns now being consolidated. 
The matter of good-will, amount at which to capitalize, pro- 
portions of common and preferred stock, the allotment of 
shares among incorporators, the selection of officers, etc., 
have all been given careful consideration and are embodied 
in the preliminary agreement for incorporation which 
follows : 

Agreement for Incorporation 

of 

Lowell, Mason & Company and Oliver & Dickson 

This Agreement for Incorporation made this 28th day of August, 
1916, by and between Robert Lowell, Walter F. Mason, and Norman 
Lowell, copartners in the manufacture and sale of chemicals and 
chemical supplies in the city of Chicago, under the firm name of 
Lowell, Mason & Company, and Nelson G. Oliver and George Dickson, 
copartners in the manufacture of chemicals, also in the city of Chicago, 
under the firm name of Oliver & Dickson. 

Witnesseth : 

1. That the business heretofore conducted by each of the above- 
named firms shall be amalgamated and incorporated under the laws 
of the State of Illinois as the Lowell-Mason Chemical Company. 

2. That the capital stock of said corporation shall be Five Million 
Dollars ($5,000,000), consisting of Three Million Dollars ($3,000,000) of 
common stock, being 30,000 shares of the par value of One Hundred 
Dollars ($100) each, and Two Million Dollars ($2,000,000) of seven 
per cent (7%) cumulative preferred stock, being 20,000 shares of the 
par value of One Hundred Dollars ($100) each. Three Million Dollars 
($3,000,000) of the common stock, being the entire issue thereof, and 
One Million Dollars ($1,000,000) of the preferred stock, is to be issued 
full-paid in exchange for the said businesses as going concerns as here- 
inafter stated, including all of their assets, credits, trade-names, form- 



1 82 SPECIAL ENTRIES 

ulae, and good-will, and said incorporated company shall assume all 
of the outstanding liabilities of the said firms as existing at the time 
of transfer, on the date of final organization. 

3. That the stock of the said corporation shall be issued full-paid 
as follows: To the aforesaid firm of Lowell, Mason & Company, One 
Million, Five Hundred Thousand Dollars ($1,500,000) of common 
stock and Five Hundred Thousand Dollars ($500,000) of preferred 
stock, distributed to the partners as follows: 

Robert Lowell, 7,500 shares common and 2,500 shares preferred 
Walter F. Mason, 6,000 " " " 2,000 " " 

Norman Lowell, 1,500 " " " 500 " " 

To the aforesaid firm of Oliver & Dickson, One Million, Five 
Hundred Thousand Dollars ($1,500,000) of common stock and Five 
Hundred Thousand Dollars ($500,000) of preferred stock, distributed 
to the partners as follows: 

Nelson G. Oliver, 7,500 shares common and 2,500 shares preferred 
George Dickson, 7,500 " " 2,500 " 

The remaining stock, being One Million Dollars ($1,000,000) of 
preferred stock, is to be underwritten by Baker, Wilson & Shaw, 
bankers, at 95 (5% commission), a contract to that effect having 
already been executed. 

4. And it is covenanted and agreed that Two Hundred Thousand 
Dollars ($200,000) of common stock shall be returned by the afore- 
said contracting parties to the corporation, One Hundred Thousand 
Dollars ($100,000) from each firm, to be treasury stock and to be 
given to the said bankers free of charge as a bonus with the One 
Million Dollars ($1,000,000) of preferred stock subscribed by them. 

5. That the Board of Directors shall consist of five members, and 
the first Board named shall consist of : 

Robert Lowell 

Walter F. Mason 

Norman Lowell 

Nelson G. Oliver 

George Dickson 
That cumulative voting shall be employed in the election of 
directors ; that directors shall be stockholders ; and that salaries of 
officers shall be fixed or changed only by a four-fifths' vote of the 
entire Board. 

6. The first officers of the corporation shall be as follows : 



PARTNERSHIPS INCORPORATED 1&3 

President Robert Lowell 

Vice-President Nelson G. Oliver 

Treasurer Walter F. Mason 

Secretary George Dickson 

and that the President and Treasurer shall each have an annual salary 
of Twelve Thousand Dollars ($12,000), and that the Vice-President 
and Secretary shall each have an annual salary of Eight Thousand 
Dollars ($8,000). 

7. That after the formation of said corporation the existing firms 
of Lowell, Mason & Company and Oliver & Dickson shall be formally 
dissolved, and the business connections of each, and the general public, 
shall be formally notified thereof. 

In Witness Whereof, the parties have hereunto affixed their hands 
and seals on the day and year first above written. 

Robert Lowell [l. s.] 

Walter F. Mason [l. s.] 

Norman Lowell [l. s.] 

Nelson G. Oliver [l. s.] 

George Dickson [l. s.] 

Attest : 

Charles W. Bennett 

§ 162. Allotment of Stock 

The allotment of common and preferred stock is given 
in fuller detail in the following tabulation : 







Shares 




Name 


Address 


Common 


Preferred 


Amount 


Robert Lowell 


Chicago 


7,500 


2,500 


$1,000,000 


Walter F. Mason 


M 


6,000 


2,000 


800,000 


Norman Lowell 


a 


1,500 


500 


200,000 


Nelson G. Oliver 


" 


7,5oo 


2,500 


1,000,000 


George Dickson 


Evanston 


7,5oo 


2,500 


1,000,000 


Baker, Wilson & Shaw 


Chicago 
ions 




10,000 


1,000,000 


Total Subscript) 


. . 30,000 


20,000 


$5,000,000 





§ 163. Underwriting Expenses 

It is customary for corporations in disposing of large 
stock and bond issues, to seek the aid of well-known bank- 



ify SPECIAL ENTRIES 

ing houses. When this is done, the bankers "underwrite, " 
or become responsible for, the sale of a given amount of 
stock. In the present instance the amount involved is 
$1,000,000, the bankers agreeing to take this entire block 
of stock at 95, or rather on a 5% commission basis. They 
then sell the stock to their customers at par or above, the 
difference between the cost and selling prices representing 
their profit or commission. It is probable that 1 in a case 
like this the preferred stock would be sold at par and the 
$200,000 of common stock be included therewith as a bonus, 
the transaction bringing the bankers a profit of $50,000 — 
the amount of their commission. 

To the newly organized company the transaction is 
legitimate, since the $50,000 realized by the bankers is re- 
garded as a selling commission, exactly as if the expense 
of selling the stock had been incurred by the company it- 
self. The bonus of treasury stock given the bankers might 
be entered on the books, as shown later; or be transferred 
directly from the stockholders to the banking firm, or to the 
new purchasers, without being entered on the books at all. 
As the incorporators have donated the stock for the good of 
the cause, it matters little how the transaction is handled 
so long as the desired end is reached, and such receipts or 
other evidences of it are preserved as will establish the facts 
should the necessity arise. 

When stock is underwritten it is not unusual for the 
bankers to turn over to the company full payment for the 
underwritten stock; a check for the difference between this 
amount and the underwritten price being, in turn, given to 
them. Such amount is then charged to Commission account 
or to Underwriting Expense or some other suitable account. 
This has the merit of bringing the transaction on the books 
in a very clear and simple manner, and of eliminating from 
record the appearance of selling stock at a discount. In the 



PARTNERSHIPS INCORPORATED 



185 



present case, however, but 50% of the underwritten stock 
($500,000) is paid by the underwriters at the time, and a 
check for $25,000 (5% commission on 50% of the under- 
written stock), is given to them. The remainder of the 
underwriters' subscription ($500,000) will be paid later as 
per agreement. 



§ 164. Balance Sheets of the Incorporating Firms 

The balance sheets of the two partnerships, Lowell, 
Mason & Company and Oliver & Dickson, as of September 
1, 19 1 6, before the incorporation, are given below. These 
statements and the agreement for incorporation as given 
in § 161, form the basis for opening the books of the new 
company. 

Lowell, Mason & Company 
Balance Sheet, September i, 1916 



Assets 




Liabilities 




Land and Buildings... 


$250,000.00 


Mortgage Payable 


$100,000.00 


Machinery and Tools. 


115,000.00 


Interest Accrued 


2,500.00 


Patents and Patterns.. 


72,800.00 


Notes Payable 


40,000.00 


Trucks and Motors . . . 


25,000.00 


Interest Accrued 


1,500.00 


Fuel and Supplies 


12,400.00 


Accounts Payable 


25,000.00 


Raw Material 


52,800.00 
57,300.00 


Accrued Taxes 


6,500.00 


Work in Process 


Reserve Accounts: 


Finished Stock 


44,900.00 


For Depreciation... 


12,000.00 


Deferred Charges to 




" Bad Debts 


2,200.00 


Operating 


9,250.00 


Capital Accounts : 




Investments in Stocks 




Robert Low- 




and Bonds 


143,700.00 


ell $500,000 




Notes Receivable 


142,000.00 


Walter F. 




Accounts Receivable.. 


174,800.00 


Mason . . . 400,000 




Cash 


95,000.00 


Norman 








Lowell . . 100,000 


[,000,000.00 




Profits Undivided.... 


5,250.00 


$ 


i,i94,95o.oo 


[,194,950.00 



i86 



SPECIAL ENTRIES 



Oliver & Dickson 
Balance Sheet, September i, 1916 



Assets 




Liabilities 




Leasehold 


$156,000.00 


Notes Payable (Se- 




Machinery and Tools. 


85,000.00 


cured) 


$126,000.00 


Delivery Equipment.. 


30,000.00 


Accounts Payable 


136,300.00 


Fuel and Supplies 


9,400.00 


Interest Accrued 


1,600.00 


Patents and Patterns.. 


122,000.00 


Accrued Operating 




Raw Material 


75,100.00 


Charges 


10,700.00 


Work in Process 


80,900.00 


Capital Accounts: 




Finished Stock 


198,000.00 


Nelson G. 




Deferred Charges 


12,300.00 


Oliver ...$500,000 




Bonds and Securities. 


150,000.00 


George 




Accounts Receivable, 




Dickson.. 500,000 


1,000,000.00 


Net (book value 
$223,000) 








221,500.00 
134,400.00 






Cash 


$ 




$ 


1,274,600.00 


1,274,600.00 



§ 165. Statutory Requirements 

The Illinois statutes state that, "It shall be the duty of 
the directors or trustees of every stock corporation to cause 
to be kept at its principal office or place of business in this 
state correct books of account of all its business, and every 
stockholder in such corporation shall have the right at all 
reasonable times, by himself or by his attorney, of examin- 
ing the records and books of account of the corporation." 



§ 166. Opening Entries 

The opening entries for the new corporation must be 
such as will record correctly and in proper sequence the 
various transactions involved in the incorporation of the 
company, and in transferring to it, in exchange for its capital 
stock, the entire plant, business, and net assets of each firm. 
Those shown below do not differ materially from the entries 



PARTNERSHIPS INCORPORATED 



187 



given in previous chapters, except in the manner of making 
charges for stock. Instead of opening accounts for the 
various subscribers or even for subscriptions, accounts are 
opened separately for the three different concerns which 
have subscribed for stock, and the amount agreed upon is 
charged to each. 

September 1, 1916 
First Entry 

Unissued Common Stock $3,000,000 

Unissued Preferred Stock 2,000,000 

To Capital Stock — Common $3,000,000 

" Capital Stock — Preferred 2,000,000 

The Lowell-Mason Chemical Company is 
incorporated this day under the laws 
of Illinois, with a capital stock of $5,- 
000,000 divided into 30,000 shares of 
common stock of the par value of 
$100 each, and 20,000 shares of 7% 
cumulative preferred stock of the par 
value of $100 each. 

In the second entry, each firm is charged with the 
amount of stock to be turned over to its members, or to 
whomsoever it directs. A separate entry and explanation 
might be made, if desired, for each firm, or even for each 
subscriber, but in either case each entry should clearly state 
the amount of common and preferred stock taken. The 
entry for stock given to the banking firm might advan- 
tageously be separated from the others. 

Second Entry 

Lowell, Mason & Company $2,000,000 

Oliver & Dickson 2,000,000 

Baker, Wilson & Shaw 1,000,000 

To Unissued Common Stock. . .'. $3,000,000 

" Unissued Preferred Stock 2,000,000 



1 88 SPECIAL ENTRIES 

Subscriptions of the above firms for the 
entire common and preferred stock of 
the Company; the distribution of this 
stock, as per agreement for incor- 
poration, the subscription list, and the 
certificate of incorporation, being as 
follows : 

Shares 
Com- Pre- 
Name mon ferred 

Robert Lowell 7>5 C0 2,500 

Walter F. Mason .... 6,000 2,000 

Norman Lowell 1,500 500 

Nelson G. Oliver .... 7,500 2,500 

George Dickson 7,500 2,500 

Baker, Wilson & Shaw 10,000 

Total 30,000 20,000 



September 1, 1916 

Third Entry 

Plant and Sundry Assets $2,000,000 

To Lowell, Mason & Company $2,000,000 

Purchase price of the plant, assets, and 
business of Lowell, Mason & Company 
taken over this day as a going concern, 
in full payment of stock subscriptions 
to 15,000 shares of common and 5,000 
shares of preferred stock of the Com- 
pany, as per agreement for incorpora- 
tion. (See minute book, page 5.) All 
right, title, and interest in the assets of 
Lowell, Mason & Company are con- 
veyed to the Lowell-Mason Chemical 
Company, and all liabilities of that firm 
are assumed by the Lowell-Mason 
Chemical Company, as per agreement 
for incorporation. 



PARTNERSHIPS INCORPORATED 



189 



Fourth Entry 
Sundries to Sundries : 

Land and Buildings 

Machinery and Tools 

Patents and Patterns 

Trucks and Motors 

Fuel and Supplies 

Raw Material 

Work in Process 

Finished Stock 

Deferred Charges to Operating 

Investments in Stocks and Bonds 

Notes Receivable 

Accounts Receivable 

Cash 

Good-Will 

To Mortgage Payable 

Interest Accrued 

Notes Payable 

Accounts Payable 

Accrued Taxes. 

Reserve for Depreciation 

Reserve for Bad Debts 

Surplus 

Plant and Sundry Assets 

To record in the ledger the various 
specific assets and liabilities turned 
over by Lowell, Mason & Company. 



$250,000 
115,000 
72,800 
25,000 
12,400 
52,800 

57,300 
44,900 

9,250 

143,700 

142,000 

174,800 

95,000 

1,000,000 



$100,000 

4,000 

40,000 

25,000 

6,500 

12,000 

2,200 

5,250 

2,000,000 



Fifth Entry 

Plant and Sundry Assets $2,000,000 

To Oliver & Dickson 

Purchase price of the plant, assets, and 
business of Oliver & Dickson, taken 
over by the Company as a going con- 
cern, as per agreement for incorpora- 
tion. (See minute book, page 5.) 
Assets of Oliver & Dickson are taken 
over and liabilities assumed by Com- 
pany as shown below. 



$2,000,000 






190 



SPECIAL ENTRIES 



Sixth Entry 
Sundries to Sundries: 

Leasehold $156,000 

Machinery and Tools 85,000 

Delivery Equipment 30,000 

Fuel and Supplies 9,400 

Patents and Patterns 122,000 

Raw Material 75,ioo 

Work in Process 80,900 

Finished Stock 198,000 

Deferred Charges 12,300 

Bonds and Securities 150,000 

Accounts Receivable 223,000 

Cash 134,400 

Good- Will 1,000,000 

To Notes Payable (Secured) $126,000 

" Accounts Payable 136,300 

" Interest Accrued 1,600 

" Reserve for Bad Debts 1,500 

" Accrued Operating Charges 10,700 

" Plant and Sundry Assets 2,000,000 

To record in the ledger accounts the 
specific assets and liabilities turned 
over by Oliver & Dickson, as above. 

Seventh Entry 

Cash $500,000 

To Baker, Wilson & Shaw $500,000 

Payment of 50% of subscription of Baker, 
Wilson & Shaw, underwriters, to $1,- 
000,000 of preferred stock. 

Eighth Entry 

Organization Expense $31,000 

To Cash $31,000 

By order of the directors for payment of 
various expenses incurred during the 
incorporation of the Company, includ- 
ing 5% commission to Baker, Wilson 
& Shaw on $500,000 of stock subscrip- 
tion. (Give expense items in detail.) 



PARTNERSHIPS INCORPORATED 



191 



Ninth Entry 

Treasury Stock — Common $200,000 

To Stock Donation Account $200,000 

2,000 shares of common stock donated to 
the Company in accordance with the 
agreement for incorporation, as fol- 
lows: 

Lowell, Mason & Company 1,000 shares 
Oliver & Dickson 5,000 " 

Tenth Entry 

Stock Donation Account $200,000 

To Treasury Stock — Common $200,000 

For the bonus of 2,000 shares of common 

stock transferred to Baker, Wilson & 

Shaw as per underwriting contract, 

being one share of common stock for 

every five of preferred stock under- 
written. This stock has been donated 

by the incorporators and is full-paid 

and non-assessable. 

$500,000 of the underwriters' stock subscription still 
remains to be settled for as per agreement, at which time 
Cash and Organization Expense will be increased and the 
account with Baker, Wilson & Shaw closed out. 

§ 167. Closing the Partnership Books 

The manner of closing the partnership books will be 
illustrated in detail by the closing entries for Lowell, Mason 
& Company. A somewhat different procedure is shown in 
condensed form in closing the books of Oliver & Dickson. 

It is not unusual, when a partnership is incorporated, 
for the bookkeeping system, if well-arranged, to be retained 
and be used by the new company, rather than to open new 
books. When that is the case, only such entries are required 
as are necessary to open the accounts peculiar to the corpora- 



IQ2 SPECIAL ENTRIES 

tion and record the transactions incident to incorporation. 
However, in the case now under consideration new books 
are presumed to have been opened, and, of course, all asset 
and liability accounts must necessarily be closed on the 
partnership books and the balances be transferred to the 
corporation's accounts. 

It will be noticed that each firm has been allowed 
$1,000,000 for its good-will in addition to payment in full 
for its net worth. The amount may be too much, but that 
is a matter with which the accountant is not particularly 
concerned since this has already been determined and he 
must accept conditions as he finds them. The two firms 
receive stock of the new company in exchange for their 
respective plants and net assets; and this stock in turn is 
apportioned to the former partners in proportion to their 
holdings as set forth in the agreement. The successive 
entries shown below exhibit in proper sequence the pro- 
cedure and book entries required. 

§ 168. Closing Entries on Books of Lowell, Mason & 
Company 

The following entries will properly adjust and close the 
accounts of Lowell, Mason & Company. The same end 
could be reached by different series of adjusting entries. 

First Entry September 1, 1916 

Good-Will $1,000,000 

To Robert Lowell $500,000 

'" Walter F. Mason 400,000 

" Norman Lowell 100,000 

To place upon the books good-will of 
$1,000,000 in accordance with agree- 
ment for incorporation of the Lowell- 
Mason Chemical Company entered into 
August 28, 1916. Good-will appor- 
tioned according to the partners' hold- 
ings. 



PARTNERSHIPS INCORPORATED 



193 



Second Entry 

Lowell-Mason Chemical Company $2,194,950 

To Sundry Assets : 

Land and Buildings 

Machinery and Tools 

Patents and Patterns 

Trucks and Motors 

Fuel and Supplies 

Raw Material 

Work in Process 

Finished Stock 

Deferred Charges to Operating. . . 

Investments in Stocks and Bonds. 

Notes Receivable 

Accounts Receivable 

Cash 

Good- Will 

Plant, good-will, and sundry assets turned 
over to the Lowell-Mason Chemical 
Company in exchange for $2,000,000 
par value of stock of that Company, 
as per agreement for incorporation. 



$250,000 
115,000 
72,800 
25,000 
12,400 
52,800 

57,300 
44,900 

9,250 

143,700 

142,000 

174,800 

95,000 

1,000,000 



Third Entry 
Sundry Liabilities: 

Mortgage Payable $100,000 

Notes Payable 40,000 

Interest Accrued 4,000 

Accounts Payable 25,000 

Accrued Taxes 6,500 

Reserve for Depreciation 12,000 

Reserve for Bad Debts 2,200 

Profits Undivided 5,250 

To Lowell-Mason Chemical Company $194,950 

To close accounts and transfer to Lowell- 
Mason Chemical Company all of the 
liabilties of this firm, as per agreement 
for incorporation. 

All assets and liabilities have now been closed off and 



194 



SPECIAL ENTRIES 



transferred to the new corporation; and the only accounts 
remaining open are the capital accounts of partners and the 
debit balance of the Lowell-Mason Chemical Company. The 
required amount of stock has been received from the new 
company to pay for the $2,000,000 of net assets turned over. 
This stock is distributed to the former partners as originally 
agreed, and entered on the books as follows : 

Stock of Lowell-Mason Chemical Company $2,000,000 

To Lowell-Mason Chemical Company $2,000,000 

For 20,000 shares of stock of Lowell- 
Mason Chemical Company received to- 
day in full payment for net assets 
shown in the previous entries. The 
stock is issued in the partners' names 
as follows : 

Shares 
Com- Pre- Par 
Names mon ferred Value 

Robert Lowell.. 7,500 2,500 $1,000,000 
Walter F.Mason 6,000 2,000 800,000 
Norman Lowell 1,500 500 200,000 

Total 15,000 5,000 $2,000,000 



Robert Lowell $1,000,000 

Walter F. Mason 800,000 

Norman Lowell 200,000 

To Stock of Lowell-Mason Chemical 

Company $2,000,000 

For distribution of the above-mentioned 
stock to the partners, and to close the 
capital accounts of the firm. 

§ 169. Closing the Books of Oliver & Dickson 

The entries below illustrate another plan of closing the 
partnership accounts. These entries are condensed as much 
as possible so as to show merely the procedure rather than 



PARTNERSHIPS INCORPORATED 



195 



the record of details such as was shown in the previous 
closing entries. 

Good-Will $1,000,000 

To Nelson G. Oliver $500,000 

" George Dickson 500,000 

(Full explanation here.) 

Lowell-Mason Chemical Company $2,000,000 

Sundry Liabilities (listed separately) 274,600 

To Good-Will and Sundry Assets 

(listed separately) $2,274,600 

(Full explanation here for transfer of 
all assets and liabilities.) 

Nelson G. Oliver $1,000,000 

George Dickson 1,000,000 

To Lowell-Mason Chemical Company $2,000,000 

To close capital accounts of the partners 
upon distribution to them of stock of 
the Lowell-Mason Chemical Company: 
Shares 
Name Common Preferred 

Nelson G. Oliver. . 7,500 2,500 

George Dickson.... 7,500 2,500 

Total 15,000 5,000 



§ 170. Balance Sheet of New Company 

The accompanying balance sheet of the new corporation 
shows the combined assets and liabilities and capital stock 
of the Lowell-Mason Chemical Company. The balance sheet 
of each firm as given in § 164 shows the condition of the 
two firms at the time of the incorporation. Add $1,000,000 
for good-will to the net capital of each firm to get the value 
placed upon its business. On the books of- the new company 
the assets and liabilities taken over from the two firms are, 



196 



SPECIAL ENTRIES 



of course, to be combined in the respective accounts, as 
shown in the consolidated balance sheet herewith. 

Sometimes, the names of accounts are changed slightly 
to meet the tastes of the accountant or bookkeeper ; and it 
might be advisable to keep the two sets of accounts with 
customers of the respective firms in separate ledgers. The 
good-will of $2,000,000 might have been reduced to $1,994,- 
750 and the surplus of $5,250 eliminated. The organization 
expenses are usually spread over a term of five or ten years 
by annual charges to Profit and Loss. 



Lowell-Mason Chemical Company 
Balance Sheet as on September i, 1916 



Assets 




Liabilities 


Land and Buildings... 


$250,000.00 


Mortgage Payable $100,000.00 


Machinery and Tools. 


200,000.00 


Notes Payable 166,000.00 


Patents and Patterns.. 


194,800.00 


Accounts Payable 161,300.00 


Leasehold 


156,000.00 


Interest Accrued 5,600.00 


Trucks and Motors... 


25,000.00 


Accrued Taxes and 


Delivery Equipment. . . 


30,000.00 


Charges 17,200.00 


Fuel and Supplies 


21,800.00 


Reserve Accounts: 


Raw Material 


127,900.00 
138,200.00 


For Depreciation... 12,000.00 
" Bad Debts 3,700.00 


Work in Process 


Finished Stock 


242,900.00 






Deferred Charges to 




Total Liabilities $465,800.00 


Operating 


21,550.00 




Investments 


293,700.00 


Capital Stock: 


Notes Receivable 


142,000.00 


Common 3,000,000.00 


Accounts Receivable. . 


397,800.00 


Preferred, 7% Cum- 


Cash 


698,400.00 


ulative 2,000,000.00 


Subscriptions to Stock 
Organization Expenses 


500,000.00 
31,000.00 


Surplus 5,250.00 




Good-Will 


2,000,000.00 








$5,471,050.00 


$5,471,050.00 



Part IV — Corporate Bond Issues 



CHAPTER XIV 

THE CORPORATION BOND 

§171. Nature of the Bond 

A bond is a promise under seal to pay a definite sum 
of money at a stated time, usually with an agreement to 
pay interest at certain periods, and a pledge of certain 
properties as security for payment of both principal and 
interest. When a corporation borrows money, its indebted- 
ness may be evidenced either by notes or bonds. If the 
amount borrowed is small, or if it is borrowed in a single 
sum, or but from few persons, or for a short time, notes 
are usually given. If, however, the amount is large and 
obtained from: a number of people, and borrowed for a 
period of years, the corporate obligation is preferably and 
usually evidenced by bonds. 

The difference between a corporate jiote and a bond is 
not always clearly marked. Both are promises to pay 
money. The phrasmg^oi -the- bond is usually more formal 
than that of the note, and it must be executed u nder seal, 
while the corporate note need not. Also payment of bonds 
is usually, though not invariably, secured as to both prin- 
cipal and interest by certain specified property held for the 
purpose under a formal deed of trust. 

A bond payable "to order," or "to bearer/' or "to 
holder," is a negotiable instrument, and this in spite of the 

197 



I9 8 CORPORATE BOND ISSUES 

fact that it is executed under seal. Hence, if such a bond 
is in due form and is purchased for value and in good faith, 
the purchaser is protected against any defenses set up by 
the corporation and against any claims of previous owners. 

A bond issue consists of a number of bonds which, while 
they may vary as to denomination, are all of like general 
tenor, and, if secured at all, are all secured and, unless 
otherwise expressly provided, equally secured under one 
deed of trust. 

Bonds are issued in varying denominations. $1,000 is 
the usual face value; $500 bonds are not infrequently 
issued; $100 bonds have grown in favor in the past few 
years; and bonds are sometimes issued for popular sub- 
scription of still smaller face value. Bonds of a face value 
of $5,000 and $10,000 are frequent, and they are some- 
times issued in still larger denominations. 

Bonds are a direct corporate obligation and do not in 
any way partake of the nature of stock. They may, how- 
ever, be given rights of participation in corporate profits if 
desired, and, in the absence of statutory prohibition, may 
be given voting rights as well. 

§ 172. Authorization of Bond Issues 

"The power of a corporation to borrow money is im- 
plied, and exists without being expressly granted by a 
charter or statute."* In the absence of restraining laws, 
a corporation may therefore issue corporate notes and bonds 
to any desired amount. Also, unless otherwise expressly 
provided by law, or by charter or by-law provision, the 
power to incur corporate indebtedness lies with the directors, 
and they may at their discretion issue corporate notes and 
bonds without authorization from the stockholders. Public 
utility corporations operating under the jurisdiction of 

* Cook on Corporations, § 760. 



THE CORPORATION BOND jgg 

states having a public utility commission are usually re- 
quired to secure the authorization of the commission for 
any contemplated bond issues. 

§ 173. Constitutional and Statutory Provisions Affecting 
Bond Issues 

Constitutional provisions affecting the issue of bonds 
are found in many states, but as a rule confine themselves 
to the requirement that bonds shall be issued only for value 
and that any fictitious increase of indebtedness is void. In 
a few states the constitution requires the authorization of 
bond issues by stockholders. 

Statutory provisions requiring the assent of a specified 
majority of the stockholders before bonds may be issued 
are also found in many states. The statutory provisions 
also frequently specify the notice which must be given for 
stockholders' meetings to authorize bond issues. 

Statutory provisions limiting the amount of corporate 
indebtedness are found in many states, and in some states 
specific provisions exist as to the selling price of bonds, as 
in North Carolina where the statutes provide that bonds 
may be sold below par and commissions may be paid upon 
the sales. Other special provisions as to bond issues are 
found in a number of states. 

The statutes of the particular state should, of course, 
always be consulted when a bond issue is contemplated. 
Any proposed action may be materially affected by the 
provision of the law. 

§ 174. Procedure in Issuing Bonds 

The various steps to be taken in any bond issue must 
necessarily depend upon the kind of bonds and the con- 
ditions of the particular issue. The general procedure is 
about as follows, subject to any statutory, charter, or by- 



200 CORPORATE BOND ISSUES 

law provisions which may apply. It will be understood, 
of course, that any important bond issue should be made 
under the direct supervision of competent attorneys. 

1. The directors pass a preliminary resolution recom- 
mending the bond issue and directing the call of a special 
meeting of stockholders to consider the recommendation. 
Even where the directors have power to authorize a bond 
issue, it seems preferable and prudent to obtain the approval 
of the stockholders. 

2. A statement of the proposed bond issue is then pre- 
pared and submitted for the consideration of the stock- 
holders. This should give the time to run, how secured, 
terms of payment, rate of interest, redemption conditions, 
and all other important details. 

3. If the bond issue is approved by the. stockholders, 
their approval is usually expressed in the form of a resolu- 
tion, though sometimes when a meeting is inadvisable, the 
issue is approved by written consent of the individual 
stockholders. 

4. The issue having been sanctioned by the stockhold- 
ers, the directors pass such resolutions as are necessary to 
authorize the bonds and their issue in due form by the 
officers of the corporation. 

5. If there is a public service commission in the state, 
proposed bond issues of all corporations coming under its 
jurisdiction must have its approval before issuance. 

6. A trust company is usually selected as the trustee 
for the bonds, and a contract is made for its services. 

7. The deed of trust conveying properties to the trustee 
in trust for bondholders, and setting forth all the conditions 
under which the bonds are issued, is drawn and duly 
executed by the proper officers of the company. 

8. The bonds are prepared. These are usually engraved 
on a good bond paper with coupons attached if the issue 



THE CORPORATION BOND 2 OI 

is of coupon bonds. The trustee's certificate must appear 
on each bond. 

9. If realty is covered by the deed of trust, a copy must 
be filed in every county where the real estate is located. 

10. Sale of bonds either direct to the public, or through 
some firm of bankers, is provided for. This is usually done 
either before the bonds are authorized or soon after. The 
sale price usually depends on the standing of the issuing 
company. 

11. Provision must be made for the payment of 
interest coupons at the issuing office or by some bank or trust 
company. 

12. Provision must be made for the redemption of 
bonds at the date provided by the trust agreement. 

§ 175. Preparation of Bonds 

Bonds are usually printed or engraved by a responsible 
company and from specially prepared plates. Every pre- 
caution is taken to prevent the plates or any impression 
from them being lost or stolen, and the engravers may even 
be required to give security against loss resulting from 
negligence on their part. The bonds are bound in book 
form and numbered consecutively or in series. When ready 
for issue the bonds are sealed with the corporate seal, 
attested by the officers of the issuing company, and then 
sent to the trustee, who certifies and delivers them as pro- 
vided in the mortgage. Before certification, each bond is 
examined to see whether it is in proper form. If all the 
bonds of an issue are not to be sold at once, the entire 
issue may be engraved and the reserved bonds held till 
their time for sale, or the preparation of these latter may 
be delayed until they are needed. If they will not be 
used for a number of years, it is preferable to wait until 
the time of sale to engrave the bonds. 






202 CORPORATE BOND ISSUES 

§ 176. Terms Used in Connection with Bonds 

Like capital stock, the bond issue is usually authorized 
for a stated amount, and the bonds are then sold at such 
times and in such amounts as the conditions dictate. All 
bonds of the same issue usually bear the same date regard- 
less of the date of sale, and any coupons which have matured 
before the particular bonds are sold, are clipped off, can- 
celled, and pasted in the coupon register. 

The term "authorized" used in connection with a bond 
issue, has reference to the aggregate amount of bonds 
sanctioned or agreed upon by the stockholders and directors, 
regardless of whether all these are, or are not, disposed of 
at one time. "Issued" or "outstanding" bonds are those 
that have actually been disposed of by the company either 
to the public or to the underwriters. Bonds are "nominally 
outstanding" when certified by the trustee and offered for 
sale to the public, or when they are pledged as security or 
otherwise placed in some fund for the issuing company, no 
actual sale having taken place. "Unissued bonds" are those 
that have been authorized but not sold. "Escrow bonds" 
are those held under option or subject to some other similar 
condition. "Unsubscribed bonds" include all bonds not yet 
taken by the public; and "subscribed bonds" those that have 
been sold or contracted for, though payment for these 
may not yet have been fully made. 

"Treasury bonds" (as the term is ordinarily used) are 
the unissued or unsubscribed bonds that have not been dis- 
posed of by the company. The entire amount of authorized 
bonds, or any part thereof, may under this interpretation 
be considered as "treasury bonds" until disposed of by the 
issuing company. Some accountants, however, prefer to 
give the term the same meaning as when employed in con- 
nection with stock, designating as "treasury bonds" only 
such bonds of the company as have come back into its 



THE CORPORATION BOND 203 

possession by purchase or otherwise, for investment or for 
sinking fund purposes. Since the term is confusing, it 
would seem better not to use it at all, but instead to use 
some term which would clearly and unmistakably indicate 
the real nature of the account or classification. 

Bonds repurchased by the company should be clearly 
indicated in the balance sheet, either as a subdivision of 
"Investments," or as "Treasury Bonds," with a suitable 
explanation of what is meant thereby, or under such other 
caption as w r ill clearly indicate the nature of the asset with- 
out possibility of misunderstanding. Bonds of the company 
purchased by the trustees of the sinking fund, insurance 
fund, reserve fund, beneficial fund, or by any subsidiary or 
affiliated organization, board, or society, should, however, 
be listed in the assets of such funds, and not necessarily as 
treasury bonds. Indeed, it is not uncommon for bonds so 
purchased to be included among the general investments 
of the company ; but this should not be done unless they are 
distinctly earmarked. 

"Cancelled bonds" are those that have, under the terms 
of the issue, been redeemed by the issuing company through 
the sinking fund trustee or by direct purchase in the open 
market. Securities or other properties are said to be in the 
"treasury" of a company when they are in the custody of 
the treasurer, who is the financial officer and custodian of 
all funds and securities. The "bonded indebtedness" of a 
company has reference to its outstanding bonds. "Funded 
debt" is another term for "bonded debt" or outstanding 
bonds, being obligations of a permanent nature the security 
for which is composed of pledged property. 

§ 177. Issued and Outstanding Bonds 

The following paragraph taken from the accounting 
classification of the Interstate Commerce Commission indi- 



204 CORPORATE BOND ISSUES 

cates its designations of bonds before and after the issue 
thereof : 

"For the purposes of the balance sheet statement, funded 
debt securities are considered to be nominally issued when 
certified by trustees and placed with the proper officer for 
sale and delivery, or pledged, or otherwise placed in some 
special fund of the accounting company. They are con- 
sidered to be actually issued w T hen they have been sold to 
a bona fide purchaser for a valuable consideration, and 
such purchaser holds them free from all control by the 
accounting company. All funded debt securities actually 
issued and not reacquired and held by or for the accounting 
company are considered to be actually outstanding. If re- 
acquired by or for the accounting company under such 
circumstances as require them to be considered as held alive 
and not cancelled or retired, they are considered to be 
nominally outstanding." 

The term "treasury bond" is not used in the Commis- 
sion's classification. It is understood by the Commission, 
however, to cover either nominally issued or nominally out- 
standing bonds which are held by the corporation in its 
treasury upon its own behalf. It may be said that this is 
the stand taken by public utility commissions also, but the 
accountant or corporation official may freely use whatever 
caption for accounts he may desire, so long as it is one that 
is clearly understood by all concerned and the corporation 
is not subject to commission regulations. 

§ 178. Sinking Funds 

A sinking fund as applied to bond issues is a fund 
created for the purpose of redeeming the bonds when due, 
or prior thereto, as may be provided by the deed of trust. 
Thus, bonds may be retired from time to time as the sink- 
ing fund accumulates, or the fund may be allowed to remain 






THE CORPORATION BOND 



205 



intact until the maturity of the bonds, when, if properly 
constituted and maintained, it is sufficient for the retirement 
of the entire issue.* 

§ 179. Sale of Bonds 

Unless prevented by statutory enactment, bonds may be 
sold at any price that can be obtained. In most of the 
states there are provisions that bonds may be issued only 
for value actually received, but, in the absence of some 
more specific limitations, bonds may still be issued below 
par if in good faith. In some few states more specific 
provisions exist. 

The sale of bonds below par by the issuing corporation 
might, however, constitute an infraction of the laws against 
usury. Thus, if a 5% bond of the face value of $1,000 be 
sold for $500, the rate of interest paid on the money so 
secured is 10%. If, then, this exceeds the legal rate of 
interest in the state in which the sale was made, the trans- 
action is usurious and illegal, and for this reason the original 
purchaser, or a subsequent purchaser knowing the circum- 
stances, might be unable to enforce the payment of his bond. 
This condition could not, however, obtain if the bonds were 
in the hands of an innocent holder for value, nor in states 
in which the statutes are silent as to usury, nor in states 
where bonds may by statute provision be sold below par, 
nor in states where corporations are not allowed to avail 
themselves of the defense of usury. 

§ 180. Liabilities of Vendor 

The vendor of a bond does not warrant the legality of 
the issue, nor in any way guarantee payment of the bond. 
All he undertakes is that so far as he has knowledge, the 
bond is legally issued and what it purports to be, that it 



f See also Chapters XX, XXI, "Sinking Funds." 



2o6 CORPORATE BOND ISSUES 

has come into his hands in due course and for valuable con- 
sideration, and that he is legally competent to transfer it 
to the purchaser. In this the bond differs from a note, 
draft, or check, which the vendor is held to guarantee unless 
assigned "without recourse.' , 

§ 181. Rights of Holders 

A bond as a negotiable or quasi-negotiable instrument 
is not subject to the defenses that might exist between the 
original parties. In practice, "the courts go very far in 
protecting bona fide holders of corporation bonds, and will 
uphold and enforce such bonds under nearly all circum- 
stances. The defense that the bonds were issued below par 
does not avail as against bona fide holders."* 

A first mortgage bond does not lose its priority though 
issued after a second mortgage bond. Nor does the num- 
ber or date of issue of a bond in any way affect its rights 
of payment as regards the other bonds of the same issue, 
unless expressly so provided by the bond or deed of trust. 
Such provisions are legal but unusual, and, as a rule, every 
bond of an issue has all the rights of any other bond of 
that issue. 

Bonds cannot be redeemed by the issuing corporation 
before they are due save by consent of the holders, unless 
there is express provision in the deed of trust for such 
prior redemption. Nor can the corporation deposit with 
the trustee sufficient money for the redemption of the bonds 
and thereupon cancel the mortgage. It may, of course, 
deposit the money for the payment of the bonds, but the 
deed of trust remains in force, and should the deposited 
money be lost before the bonds mature, the corporation 
must again provide for their payment if the trustee cannot 
make good the loss. If, however, at the maturity of the 

*Cook on Corporations, § 766; see also Dickermann v. Northern Trust Company, 
176 U. S. 188 (1900). 



THE CORPORATION BOND 2 0J 

bonds, all are not presented for payment, the trustee may 
reserve a sufficient amount of money for the retirement of 
the missing bonds and discharge the deed of trust. 

Coupons may be detached from their bonds before 
maturity and be sold separately if the bond is negotiable, 
but otherwise not. The holder of a negotiable bond or a 
negotiable coupon, i.e., one payable to bearer or holder or 
order, is always presumed to be the bona fide holder of such 
bond or coupon until the contrary is proved, and, in the 
absence of any suspicious circumstances, the corporation 
may safely take up the instrument and pay the amount 
due thereon to the holder. Nor, having done so, could it 
thereafter be held liable, even should it be shown that the 
holder was not the rightful owner of the bond or coupon. 

The pledgee of registered bonds may have them trans- 
ferred to his own name and may collect the interest or 
coupons on the pledged bonds as the same become due, but 
must apply all money so received against the debt. 

Suit may be brought on a bond or coupon if not paid 
at maturity, just as suit may be brought on a promissory 
note, and this even though the mortgage is not foreclosed. 
In case of judgment, however, no execution may be had 
against the mortgaged property. In some few states, as in 
New Jersey, such suit by the individual holders before fore- 
closure is forbidden by statute. 

In case of foreclosure, if the property held under the 
deed of trust is not sufficient to pay the bonds secured 
thereby, the bondholders have recourse against the corpora- 
tion for the balance due. 



CHAPTER XV 

CLASSIFICATION OF BONDS 

§ 182. General Classification 

Bonds may be roughly classified as to the nature of 
their security, into debenture and mortgage bonds, and as 
to form, into coupon and registered bonds. Jhe distin- 
guishing features of these general classes are given below. 

§183. Debentures 

Bonds may either be secured or unsecured as to re- 
payment. If unsecured, the bonds are usually termed 
''debentures." This use of the term is not, however, 
invariable, as bonds of a certain class secured by collateral 
are at times similarly designated. 

The usual unsecured debenture bond is merely the for- 
mal corporate promise to pay money. It is an obligation 
of the corporation and may be sued upon if unpaid at ma- 
turity, but, as it is unsecured, there can be no foreclosure 
in case of default, either as to interest or principal. Its 
claim is superior to that of preferred stock, but is inferior 
to that of any secured indebtedness of the corporation. It 
takes no precedence over any other unsecured debt, and 
its value therefore depends entirely upon the financial 
strength of the issuing corporation. 

The term debenture bond is also used to designate an- 
other type of unsecured bond distinguished by the fact 
that its interest is not payable unless earned. This inter- 
est may be either cumulative or non-cumulative. . Such a 
bond differs from preferred stock only in the fixed obliga- 

208 



CLASSIFICATION OF BONDS 



209 



tion as to its principal; this obligation, however, becomes 
effective only at the maturity of the bond, no foreclosure 
or other action being possible before that date. 

As stated, secured bonds of a certain class are some- 
times styled debentures. To secure payment of these 
bonds, certain of the corporate assets — usually stocks and 
bonds of other corporations — are deposited with a trustee 
under a trust agreement. The bond is then in effect a 
collateral note, and is frequently called a "collateral trust 
bond" (§ 196). 

§ 184. Mortgage Bonds 

A mortgage bond is one the payment of which is se- 
cured by a mortgage or deed of trust on part or all of the 
property of the corporation. This deed of trust usually 
authorizes the trustees, in case of default on interest or 
principal of the secured bonds, to take possession of the 
property and either operate it or sell it, as may be pro- 
vided, for the benefit of the bondholders. 

"Mortgage" bonds are first mortgage, second mort- 
gage, etc., according to the lien of the deed of trust by 
which they are secured. Thus, a first mortgage bond, as 
its name implies, is a first lien on the property covered by 
the deed of trust — unless a builder's lien, receiver's certifi- 
cates, or similar obligations take precedence — while a sec- 
ond mortgage bond secured on the same property is a 
second lien; i.e., in case of foreclosure the first mortgage 
bonds must be paid in full, both principal and interest, be- 
fore the holders of the second mortgage bonds receive 
anything. First mortgage bonds are therefore obviously 
more desirable than those of a junior lien, that is, those 
of an inferior or later lien, unless the property is of such 
value as to be an absolute and unquestionable security for 
the entire amount of outstanding bonds. 



2io CORPORATE BOND ISSUES 

§ 185, Coupon Bonds 

A coupon bond is one which has attached to its coupons, 
or orders for payment of interest, each coupon requiring 
payment on its due date of the interest instalment repre- 
sented by that particular coupon. Coupons are in effect 
promissory notes, each calling for the payment of one in- 
stalment of interest on the bond to which it is attached. 
The interest on coupon bonds is payable to the holder of 
its coupons and not to the holder or owner of the bond, 
unless he is also the owner or holder of the coupons. 

Interest on bonds is usually payable semiannually, and 
each of the coupons attached to a coupon bond calls for 
the exact amount of one of the semiannual interest pay- 
ments on that bond. Thus, a coupon bond running ten 
years with interest payable semiannually, has attached to 
it twenty coupons. Each coupon is numbered to corre- 
spond with its bond, but also has a serial number of its 
own — running from one to twenty in the instance cited — 
indicating the order in which the coupons come due. (See 
§ 205 ; also Chapter XVIII.) 

Coupon bonds are usually made payable to bearer, 
and the coupons of such bonds, regardless of whether the 
bonds are registered or otherwise, are always payable to 
bearer and pass by delivery when they are clipped from the 
bond. 

§ 186. Registered Bonds 

A registered bond is one issued in the name of some 
particular person in the same manner as is a certificate of 
stock, the bond thereafter being transferable only on the 
books of the company. 

Coupon bonds, as stated above, are usually payable to 
bearer and are then transferable by mere delivery. Some- 
times, however, they are issued in registered form as to 



CLASSIFICATION OF BONDS 211 

principal, or with the option of registry as to principal, as 
in the case of the United States Steel Corporation bond 
shown in § 204 ; but in any such case the coupons are still 
made payable to bearer. The interest then is paid to any- 
one who presents the coupon, but the principal — the bond 
being registered — will only be paid to the person in whose 
name the bond stands on the books of the company, or 
to his assignee. 

Bonds without coupons are always registered, are 
transferable only by assignment, and interest is payable to 
the registered owner alone and is usually paid by checks 
sent out to these registered owners. 

Coupon bonds payable to bearer and registered bonds 
are often issued under the same deed of trust. Usually, 
when this is done the two classes of bonds are made in- 
terchangeable, i.e., any holder of a coupon bond payable 
to bearer may at any time exchange it for a registered 
bond, or the owner of a registered bond may at any time 
exchange it for a coupon bond payable to bearer. 

The advantage of an unregistered coupon bond is 
found in the readiness with which it may be transferred. 
The advantage of a registered bond lies in the difficulty 
of its negotiation in case the bond is lost or stolen. If a 
bond payable to bearer is either lost or stolen, its sale or 
disposal is comparatively easy, since, once in the hands of 
an innocent holder for value, it is valid. A registered 
bond, on the contrary, should it be lost or stolen, is prac- 
tically non-negotiable. It is payable only to the party 
named in the bond, and, before it can be successfully ne- 
gotiated, the requisite forgery of his signature would ef- 
fectually prevent a valid transfer. 

When registered bonds are assigned, the assignee sur- 
renders the old bond and receives in exchange a bond is- 
sued in his own name, the new ownership being recorded 



212 CORPORATE BOND ISSUES 

upon the books of the company at the same time. A small 
fee is usually charged for the transfer or reissue of a bond. 

§ 187. Kinds of Bonds 

Many kinds of bonds are issued, under varying desig- 
nations, usually derived from the more important or dis- 
tinctive features of the particular issue. 

Bonds frequently possess the characteristics of several 
different classes. Thus the bonds of the United States 
Steel Corporation shown in the coupon form in the fol- 
lowing chapter, known as "ten-sixty-year five per cent 
sinking fund gold coupon bonds," were made redeemable 
at any time after ten years from date of issue at the option 
of the corporation; their payment is provided for by a 
sinking fund and they are payable in gold coin. Also, if 
not previously redeemed, they must be paid at the end of 
sixty years, and they bear 5% annual interest. All this is 
indicated by their title. 

The bonds most frequently issued are briefly discussed 
in the following sections. 

§ 188. First Mortgage, etc., Bonds 

A first mortgage bond is one secured on property upon 
which no other bonds or similar obligations are secured. 

If a number of bond issues are secured by the same 
property, the first issue is, as stated (§ 184), a first mort- 
gage bond; the next, a second mortgage bond; the next, 
a third mortgage bond, etc.; the lien of each of these lat- 
ter being inferior to that of the issue or issues which pre- 
cede it, but superior to that of the issue or issues which 
follow. 

§ 189. Junior Lien, etc., Bonds 

A junior lien bond is one which comes after, or is in- 



CLASSIFICATION OF BONDS 213 

ferior to, some other bond or bonds in its lien upon the 
property by which it is secured. Thus, the lien of a sec- 
ond mortgage bond is a junior lien to that of the first 
mortgage bond. 

When several different issues of bonds are secured by 
the same property, those having the superior lien are some- 
times styled "underlying" bonds, the term indicating that 
they are closer to the property and have a superior or 
prior claim. Thus, if first and second mortgage bonds are 
secured on the same property, the first mortgage bonds 
are underlying bonds. If third mortgage bonds are also 
issued, both first and second mortgage bonds are under- 
lying bonds. 

§ 190. Gold, etc., Bonds 

A bond may in express terms provide for payment in 
gold, silver, legal tender money, etc. Such provisions are 
legal and enforceable. If no medium is specified in which 
payment of a bond must be made, legal tender is always 
understood. 

§ 191. Convertible Bonds 

A convertible bond is one which, under prescribed 
conditions, carries the right of conversion into other se- 
curities of the same corporation. The usual form of 
convertible bond is that which may be exchanged for 
common or preferred stock of the issuing corporation at a 
fixed rate of exchange and within a certain period. 

The American Telegraph and Telephone Company is- 
sued on March 1, 191 3, $67,000,000 of twenty-year con- 
vertible ^y 2 % bonds. These bonds were made convertible 
at par into common stock of the company at $120 per 
share (par value $100) from March 1, 191 5, to March 1, 
1925. It is apparent, therefore, that the price of the bonds 



214 



CORPORATE BOND ISSUES 



should follow any advance in price of the stock, while 
their investment value should prevent their following any 
downward trend the stock might take. The stock of this 
company on March i, 1915, sold around $120 per share, 
and the bonds at par, so that an exchange on that basis 
would appear to be profitable when it is considered that 
the stock is paying dividends at the rate of 8%. By de- 
positing $600 par of bonds on which the holder previously 
netted an income of §2*7, he might receive in exchange 
$500 par of stock with a market value of $600, but on 
which the income is $40, or 6%% on the investment. 
This is an increase of $13 in his annual income. The 
holder of a $100 bond was permitted to exchange it for one 
share of stock by paying the additional $20 in cash; or if 
his holdings of bonds were larger, he was permitted to 
take the nearest even number of shares of stock and re- 
ceive the difference in his favor, if any, in cash. June 15, 
1916, this same stock sold around $130 per share, giving 
a direct and substantial cash profit on the exchange. 

It is obvious that the conversion privilege gives a bond 
a speculative character which adds greatly to its attrac- 
tiveness as an investment. If the stock of the issuing com- 
pany advances materially, the exchange can be made at a 
profit. If the stock does not advance, the bonds 
themselves are still a good investment. In short, the plan 
combines the safety of a bond investment with the profit 
possibilities of an investment in stock. (See also § 272.) 

§ 192. Serial Bonds 

These bonds are issued in series, one series payable each 
year, until the entire issue has been redeemed. If, for in- 
stance, the bonds cover ten years, the first series will have 
one year to run; the second, two years; the third, three 
years; and so on, until the final series, which will have ten 



CLASSIFICATION OF BONDS 



215 



years. Coupons are attached to each series corresponding 
with the number of years the bonds have to run. (See 
also § 271.) 

Serial bonds were formerly issued only by municipali- 
ties, or by companies whose credit rating was not high, 
but it is usual now for strong corporations to adopt this 
type, and the fact that it is selected does not mean that 
the company is financially unstable. It is believed by 
many to be the most satisfactory basis on which to raise 
funds for capital improvements. In some cases the serial 
bond is insisted on by the bond houses which are asked to 
underwrite the issue; in others it is demanded by the in- 
vestors; and not infrequently it is preferred by the issuing 
company itself. 

Serial bonds might be debentures, but are usually se- 
cured by a mortgage of the company's properties cover- 
ing the entire issue. When this is the case it is obvious 
that, as one series of the bonds is paid off each year, the 
security back of the remaining series automatically in- 
creases, so that the margin of security to the investor is 
constantly growing larger. While this may be an advan- 
tage to the investor, it is sometimes disadvantageous to 
the issuing company which has all the securing property 
tied up until the last instalment of the bonds is paid. To 
prevent this, the terms of the issue not infrequently pro- 
vide for the relinquishment of portions of the security after 
given redemption stages have been reached. 

§ 193. Redeemable Bonds 

Redeemable bonds are issued with the proviso that the 
issuing corporation may redeem or call them before the 
arrival of the date of maturity fixed by the deed of trust, 
either for cancellation or for sinking fund purposes. There 
are many bond issues of this nature, containing provisions 




2l6 



CORPORATE BOND ISSUES 



that the bonds may be redeemed, all or in part, at a stated 
price and accrued interest at the option of the company, 
on any interest day after a given date on 90 days' notice, 
notwithstanding the fact that the maturity date is far 
removed. 

Frequently, when the redemption privilege is retained 
by the issuing corporation, it is provided that a premium 
shall be paid upon the bonds redeemed before maturity, 
which are usually selected by lot. Thus the sinking fund 
provision of the deed of trust securing the ten-sixty-year 
5% sinking fund gold coupon bonds of the United States 
Steel Corporation, provides that at any time after ten 
years from the date of issue, any outstanding bonds may 
be redeemed by payment of the principal and a premium 
of 10% of such principal together with all accrued inter- 
est; bonds redeemed to be selected by lot and redemption 
to be confined to coupon bonds until all outstanding cou- 
pon bonds are redeemed. (See also §§ 260, 261, 267, 268.) 

§ 194. Profit-Sharing, etc., Bonds 

Profit-sharing bonds, or dividend bonds, or partici- 
pating bonds, as they are variously termed, are bonds 
which in addition to their regular interest are entitled to 
some participation in the dividends of the company. The 
dividends paid on a profit-sharing bond may be limited 
to a fixed amount or percentage, or be conditioned other- 
wise, or the bond may participate as fully as does the 
common stock of the company. 

It is obvious that such a provision gives the bond a 
speculative character which adds materially to its attrac- 
tiveness as an investment. If it participates fully on the 
same basis as does the stock of the corporation, it has all 
the safety of a bond with all the profit possibilities of 
stock, and is preferable to a convertible bond because the 



CLASSIFICATION OF BONDS 



217 



bond features do not have to be sacrificed to secure the 
profit-sharing stock possibilities. 

§ 195. Income Bonds 

An income bond is one which relies upon the net in- 
come of the company for its interest payments. It is a 
lien on the net income, but, unless profits are earned, its 
interest is not an obligation of the company. Such bonds 
differ from preferred stock only in the fact that their prin- 
cipal is an absolute obligation of the company and must 
be paid at the maturity date. Income bonds are sometimes 
termed debentures. (See §§ 183, 232.) 

Income bonds may be either cumulative or non-cumu- 
lative as to interest. The principal may be secured or 
unsecured. 

§ 196. Collateral Trust Bonds 

A collateral trust bond is one which is secured by col- 
lateral — usually stocks and bonds of other corporations 
owned by the issuing corporation. These are deposited 
with a trustee under an agreement setting forth the con- 
ditions of the trust. Such a bond is frequently termed a 
"debenture." (See also §§ 183, 273.) 

§ 197. Guaranteed Bonds 

A guaranteed bond is one the payment of which, either 
as to interest or principal, or both, has been guaranteed 
by some other corporation. Such a guarantee must be 
in writing and must either be written on the instrument 
itself, or be attached to it, to be effective. 

Under proper conditions such guaranteed bonds are 
legal and are frequently issued. Thus, the bonds of a sub- 
sidiary railroad may be guaranteed by the parent road, or 
a bond of a constituent corporation may be guaranteed 



\ 



2i8 CORPORATE BOND ISSUES 

by the holding company or trust of which it forms a part. 
(See also §§ 22-1, 231, 276.) 

§ 198. Consolidated, etc., Bonds 

Consolidated bonds, adjustment bonds, reorganization 
bonds, and refunding bonds are used, as their names indi- 
cate, in the various consolidations and adjustments com- 
mon in the combinations or reorganizations of railroads 
and of the larger industrial corporations. 

Thus, a consolidated bond will be used to retire two 
or more smaller issues, the new bonds usually being se- 
cured upon the properties which previously supported the 
retired issues. 

Refunding bonds are those used to replace or redeem 
bonds which are maturing. Usually refunding bonds 
carry a lower rate of interest than the bonds they replace, 
although if the money conditions are difficult at the time, 
the interest rate may be the same or even higher. Re- 
funding bonds are sometimes exchanged directly for the 
old bonds, or otherwise are sold to provide money for the 
retirement of the maturing bonds. 

Adjustment bonds are those used in readjustments or 
consolidations of existing indebtedness. Reorganization 
bonds, issued when a corporation is in process of reorgani- 
zation, are usually employed to take up, or as a substitute 
for, other outstanding issues. They are generally the regu- 
lar first mortgage bonds. 

§ 199. Interest Bonds 

Interest bonds are those issued in payment of interest 
due on bond issues when cash is not available for the pur- 
pose. They preserve the interest from default and thereby 
prevent foreclosure and the other legal complications of 
a default. 






CLASSIFICATION OF BONDS 219 

§ 200. Terminal, etc., Bonds 

Terminal bonds are those issued by and secured on the 
property of a terminal company which is, as a rule, sub- 
sidiary to the railroad or steamship line using the terminal. 
Such bonds are usually issued for terminal purchases or 
improvements. Extension bonds are those issued by a 
railroad to extend its lines. Equipment bonds are those 
issued for equipment, usually by a railroad company, 
though they might be issued in connection with an indus- 
trial corporation. Construction bonds, as their name in- 
dicates, are issued to secure money for the purposes of 
construction. 

§ 201. Car Trust Bonds 

Car trust or equipment trust bonds or certificates are 
issued by a trustee who holds for their security, equipment 
purchased or leased by a railroad company. The money 
realized from the sale of these bonds goes to the manu- 
facturers or vendors of the equipment, or the bonds may 
be turned over to them direct. The railroad company re- 
ceives its equipment subject to the trust agreement, and 
retires the equipment bonds in such amounts and at such 
periods as are fixed by the trust agreement. The title to 
the equipment does not usually vest in the railroad com- 
pany until all the bonds are redeemed. This is a favorite 
kind of bond for some railway companies and is popular 
! with many street railway companies. 

Bonds and notes of this character are usually issued 
in series, redeemable in their serial order as payments are 
made by the railroad company. When the final payment 
is made by the railroad company, the deed of trust by 
which the property is held is released and the equipment 
becomes the property of the purchasing company. (See 
also §§ 224, 275.) 



220 CORPORATE BOND ISSUES 

§ 202. Purchase Money Bonds 

Purchase money bonds are those given to secure funds 
for the purchase of the property by which they are secured. 

§ 203. Short Term Notes 

A short term note is merely a corporation's promissory 
note. It may be secured or unsecured. If secured, it is 
usually by the deposit of collateral with a trustee under a 
trust agreement. The larger issues generally have coupons 
attached and differ but little from the usual bond, except 
in their early maturity. 

Short term notes are issued when the existing condi- 
tions are unfavorable for a long time loan, and usually 
either carry a larger rate of interest than a bond issue, or 
are sold at a discount that produces the same practical 
result. Short term notes are usually floated with the ex- 
pectation that they will either be retired at maturity or 
will be taken up by a bond issue on more favorable terms 
than would have been possible at the time the notes were 
issued. 

Short term notes usually run from one to five or six 
years. The security deposited with the trustee consists 
of bonds and stocks of other companies, on almost the 
same plan as collateral trust bonds. These notes are 
issued under varying conditions, and their tenor and 
redemption features give to them such designations as 
"collateral lien notes," "collateral trust serial notes, * 
"collateral gold notes," etc. Any one of these titles might 
contain the word "guaranteed" in case that is a feature 
of the note. (See also § 223.) 






CHAPTER XVI 

BOND FORMS 

§ 204. Form of Bond 

The language of a bond is usually more formal than 
that of a note. It must be executed under seal, and, if 
secured, reference is made in the bond itself to the deed 
of trust under which it is issued. 

Usually a statement of the general conditions of a bond 
issue appears upon the face of each bond, and reference is 
made to any features of special importance, such as the 
existence of a sinking fund, the conditions of redemption, 
the method of transfer and exchange when bonds payable to 
bearer and registered bonds are issued under the same deed 
of trust, etc., etc. 

Following is the form of coupon bond, with privilege of 
registration, used by the United States Steel Corporation: 

United States of America 
State of New Jersey 

United States Steel Corporation 
Ten-Sixty- Year Five Per Cent Sinking Fund Gold 

Coupon Bond 
$ No 

United States Steel Corporation, a corporation created and exist- 
ing under the laws of the State of New Jersey, and hereinafter termed 
the "Steel Company," for value received promises to pay, on the first 
day of April, A. D. 1963, at the office or agency of the Steel Company 
in the City of New York, to bearer, or if registered, to the registered 

holder of this bond, thousand dollars in gold coin of the 

United States, of the present standard of weight and fineness, and to 
pay interest thereon from April 1, 1903, at the rate of five per cent per 

221 



22 2 CORPORATE BOND ISSUES 

annum, such interest to be payable at such office or agency in like gold 
coin semiannually on the first day of May and of November in each year 
(except that the first instalment is to be for seven months and the last 
for five months interest), but only upon presentation and surrender of 
the respective coupons for such interest hereto attached as they severally 
mature. All payments upon this bond, both of principal and interest, 
shall be made without deduction of any tax or taxes which the Steel 
Company, its successors or assigns, may be required to pay, deduct, or 
retain therefrom under any present or future law of the United States, 
or of any State, County, or Municipality therein. 

This bond is one of a duly authorized issue of coupon bonds and 
registered bonds of the Steel Company, the aggregate amount whereof is 
limited so that there shall never at any one time be outstanding bonds of 
said issue for an aggregate principal sum exceeding $250,000,000; all of 
which bonds have been issued, or are to be issued, under and in 
pursuance of, and are to be secured ratably by, and are subject to, an 
indenture dated April 1, A. D. 1903, duly executed by the Steel Com- 
pany to the United States Trust Company of New York, as Trustee, 
covering, subject to the prior lien of the indenture dated April 1, 1901, 
executed by the Steel Company to the United States Trust Company of 
New York, all the stocks, bonds, and other property now or at any time 
hereafter subject to said indenture dated April 1, 1901, and all the 
stocks, bonds, and other property that by the terms of said indenture 
dated April 1, A. D. 1903, shall be subject to the lien thereof; and 
hereby reference is made to said indentures with the same effect as if 
herein fully set forth. 

No recourse shall be had for the payment of the principal or interest 
of this bond against any stockholder, officer, or director of the Steel 
Company, either directly or through the Steel Company, by virtue of 
any statute or by enforcement of any assessment or otherwise ; any and 
all liability of stockholders, directors, and officers of the Steel Com- 
pany being hereby released. 

This bond shall pass by delivery unless registered in the owner's 
name on the books of the Steel Company at its office or agency in 
said City of New York, such registry being noted on the bond by the 
bond registrar of the Steel Company, after which no transfer shall be 
valid unless made on said books in the manner prescribed in said 
indenture, and similarly noted on the bond ; but the same may be dis- 
charged from registry by being transferred in like manner to bearer, 
after which transferability by delivery shall be restored; but again, 
from time to time, it may be registered or transferred to bearer as 
before. Such registration, however, shall not affect the transferability 
of the coupons for the interest hereon, by delivery merely, and pay- 
ment to the bearer thereof shall discharge the Steel Company in respect 



BOND FORMS 



223 



of the interest therein mentioned whether or not the bond shall have 
been registered. 

This bond, with the coupons for all interest instalments which shall 
not have matured, may also, as provided in said indenture, be exchanged 
for a registered bond without coupons for an equal aggregate principal 
sum. 

Neither this bond nor any coupon for interest thereon shall be- 
come or be valid until the bond shall have been authenticated by the 
certificate indorsed hereon duly signed by the Trustee under said 
indenture. 

This bond is subject to redemption at the pleasure of the Steel 
Company as provided in said indenture, on any first day of May or 
any first day of November, after April 1, 1913, by payment of the 
principal of the bond and the unpaid accrued interest, together with a 
premium of ten per cent of such principal. The Steel Company annually 
will pay the sum of $1,010,000 to the Sinking Fund Trustees under said 
indenture, which sum is to be applied to the redemption of bonds of 
said issue, in the manner provided in said indenture. 

No action or proceeding at law or in equity shall be instituted or 
shall be maintainable upon this bond or upon any of the coupons 
hereof for the enforcement or collection of interest or for maturing the 
principal thereof by reason of any default in payment of any instal- 
ment of interest hereon, until after such instalment thereof shall have 
been unpaid and in default for the continuous period of two years, nor 
except when and as permitted by the terms of said indenture. 

In Witness Whereof, said United States Steel Corporation has 
caused these presents to be signed by a Vice-President, and its cor- 
porate seal to be hereunto affixed, and to be attested by its Secretary 
or by an Assistant Secretary, and coupons for such interest bearing 
the engraved fac-simile signature of its Treasurer to be attached hereto, 
the first day of April, A. D. 1903, 

United States Steel Corporation 
[seal] By 

. ^ Vice-President 

Attest : 

Secretary 

This bond, as will be noted, may be registered if desired 
and may again be restored to its first condition of trans- 
ferability by delivery. Its registration does not, however, 
affect the coupons which pass by delivery alone and are 
payable to bearer regardless of whether the bond be regis- 



22 4 CORPORATE BOND ISSUES 

tered or transferable by delivery. This would be the case 
without provision therefor in the bond, unless the coupons 
contained express stipulations to the contrary. 

A shorter form of coupon bond as used by a smaller 
corporation is as follows : 

The National Paper Company 
First Mortgage Six Per Cent Gold Coupon Bond 

No. 35 $500 

Know All Men By These Presents, That The National Paper 
Company, a corporation organized and existing under the laws of the 
State of New York, is indebted, and for value received promises to pay, 
to the bearer hereof, or to the registered holder of this bond, if the 
same be registered, the sum of Five Hundred Dollars ($500) in gold 
coin of the United States of the present standard of weight and fine- 
ness, on the first day of October, 1921, at the office of the said Com- 
pany, in the City of New York, with interest at the rate of six per cent 
per annum, payable semiannually at said office, in like gold coin, on the 
first days of October and April in each year, upon surrender of the 
annexed coupons therefor as they severally mature. 

Both the principal and interest of this bond are payable without 
deduction for any United States, State, Municipal, or other tax or taxes 
which said The National Paper Company may be required to pay or 
deduct therefrom under or by reason of any present or future law, the 
said Company hereby agreeing to pay such tax or taxes. 

This bond is one of a series of coupon and registered bonds of The 
National Paper Company, bearing interest at the rate of six per cent 
per annum, issued or to be issued in pursuance of, and subject to, the 
terms of the mortgage or deed of trust hereinafter referred to, but so 
that the aggregate amount of said bonds, both coupon and registered, 
shall not exceed the total sum of Thirty Thousand Dollars ($30,000). 
All of said bonds are equally secured by a mortgage or deed of trust, 
dated October 1, 1916, executed by The National Paper Company to 
Charles White of the City of New York, as Trustee, conveying the 
property and franchises of The National Paper Company mentioned 
in said mortgage or deed of trust, to which reference is hereby made 
for a description of the property and franchises mortgaged, and the 
nature and extent of the security, and the rights of the holders of said 
bonds under the same, and the terms and conditions upon which said 
bonds are issued and secured. 

This bond may be registered, in the name of the owner, on the 



BOND FORMS 



225 



books of the Company, such registration to be indorsed hereon, and 
thereafter no transfer shall be valid unless made on the books of the 
Company by the registered owner and similarly indorsed hereon, but 
said bond may again be made payable to bearer by like transfer, and 
thereafter pass by delivery until again registered. Notwithstanding 
such registration the coupons hereon shall remain and be negotiable by 
delivery and payable to bearer on presentation. 

This bond shall not become obligatory for any purpose until it shall 
have been authenticated by the certificate, hereon indorsed, of the 
Trustee under said mortgage or deed of trust. 

In Witness Whereof, The National Paper Company has caused 
these presents to be signed by its President, and its corporate seal to 
be hereunto affixed, and to be attested by its Secretary, and coupons 
for said interest, with the engraved signature of its Treasurer, to be 
attached hereto, this 1st day of October, 1916. 

The National Paper Company 

[Seal] By 



President 
Attest: 



Secretary 

§ 205. Form and Nature of Coupon 

A coupon, as already stated (§ 185), is in form a 
promissory note. It is attached to the bond as a convenient 
method of indicating the amount and the due date of 
interest, and of the collection of this interest when due. 
One coupon is attached to the bond for each interest instal- 
ment. Thus a twenty-year bond with semiannual interest 
payments would carry forty coupons. These coupons are 
numbered serially, and also carry the number of the bond 
to which they are attached. Coupon No. 1 represents the 
interest that will be due at the first interest period. As soon 
as that period arrives, the coupon is said to mature, and it 
is then detached from the bond and either presented for 
payment or deposited for collection, as would be done with 
any other promissory note. Coupons may be detached from 
the bond before maturity and sold independently of the 



22 6 CORPORATE BOND ISSUES 

bond. The possession of the coupon is sufficient evidence 
of ownership in the absence of proof to the contrary, and, 
as a coupon is payable to bearer, no indorsement is necessary 
or usual when it is presented for payment or deposited for 
collection. 

When an interest payment on coupon bonds is about to 
fall due, the amount necessary to meet the maturing cou- 
pons is usually deposited in some designated bank or trust 
company which acts for the corporation and pays the cou- 
pons as they are presented. The coupons are then cancelled 
and are pasted in the coupon register (§ 214). 

The form of coupon used in connection with the bond 
of the United States Steel Corporation shown on the pre- 
ceding pages is as follows : 

No $ 

Coupon for $ , gold coin of the United States of America, 

payable to bearer on the first day of , at the 

office or agency of the United States Steel Corporation in the City of 

New York, without deduction for taxes, for months interest 

due on that day on the $ Ten-Sixty-Year Five Per 

Cent Sinking Fund Gold Bond of United States Steel Corporation, 

No , subject to the terms of said bond, and of the indenture 

dated April 1, 1903,, therein mentioned. 



Treasurer 
Coupon (U. S. Steel Corporation) 

§ 206. Trustee's Certificate 

Bonds issued under a deed of trust must be certified by 
the trustee before they are issued. The trustee's certificate 
appears on the back of each bond, and evidences the fact 
that the bond is one of the issue mentioned in the deed of 
trust. This certification is not part of the bond, though 
it may be required before the bond itself can be considered 
as issued, nor is it in any sense an indorsement of the bond 



BOND FORMS 227 

nor a certification of its correctness as to form or subject 
matter. The object of the trustee's certificate is to ide ntify 
t he bond and to prevent overissues . If the trustee certifies 
more bonds than are called for by the deed of trust, he 
may make himself personally responsible for the overissue, 
but he incurs no liability whatsoever by reason of any 
proper certification. 

The form of trustee's certificate indorsed on the bonds 
of the United States Steel Corporation is as follows : 

This Is To Certify that this bond is one of the issue of bonds of 
United States Steel Corporation mentioned in the indenture dated April 
1, 1903, within referred to, executed by United States Steel Corpora- 
tion to the undersigned as Trustee. 

United States Trust Company of New York 

By 

Trustee's Certificate 

§ 207. Deed of Trust 

A deed of trust is a mortgage on certain specified prop- 
erty given to a trustee who' acts for the holders of the bonds 
secured thereby. The deed of trust recites at length the 
terms and conditions under which the bonds are issued and 
under which the property for their security is held. 

A modern deed of trust is usually a very comprehensive 
and formidable instrument. A brief form may occupy 
perhaps from ten to twenty pages of printed matter. More 
extended forms frequently occupy one hundred pages or 
more. 

In the bond itself reference is always made to the deed 
of trust by which it is secured, and in the deed of trust the 
bond is recited in full. The bond by express terms is sub- 
ject to the conditions of the deed of trust. Accordingly, 
the statements of the bond are controlled by the explana- 
tions and any non-conflicting conditions of the deed of trust. 



22 8 CORPORATE BOND ISSUES 

If the deed of trust should fail for any reason, the bonds 
then become the unsecured obligation of the corporation, 
and take their place on a parity with the other unsecured 
corporate debts. 

§ 208. Recitals of Deed of Trust 

In the deed of trust usually employed, the preamble 
recites the conditions precedent to the issue, gives the form 
of bond in full, and the form of coupon and trustee's cer- 
tificate, also in full ; followed by the granting clauses, which 
include a description of the property covered, and by the 
trust reservation with stipulation for equal participation of 
all the bonds of that issue in the protection afforded by the 
mortgaged property. 

Following this come the "covenants, conditions, uses, 
and trusts" subject to which the bonds are issued and the 
mortgaged property is held. These have a wide range. 
Some of the more usual of the matters provided for are 
as follows : 

1. Procedure for execution, certification, and delivery 

of bonds. 

2. Enjoyment of property by mortgagee until default. 

3. Payment of principal and interest without deduc- 

tion for taxes, and in "gold coin," "legal tender," 
or otherwise, as the case may be. 

4. Payment of all taxes and assessments on property 

held under the deed of trust, and, if the nature of 
the property is such as to require it, maintenance 
of the same in repair, under due insurance and 
freedom from liens. 

5. Provision that the deed of trust shall be a first mort- 

gage — if such is the case — and be duly executed, 
recorded, and maintained. 



BOND FORMS 229 

6. Provision for any necessary additional assurances 

for protection of bondholders. 

7. Provision for trustee to enter upon property and 

conduct business without foreclosure under cer- 
tain conditions. 

8. Creation of sinking fund for retirement of bonds. 

9. Procedure for foreclosure in case of default. 

10. Provision that bonds shall be matured by failure to 

pay interest. 

11. Stipulation that loans, advances, or payments made 

on coupons for account of the mortgagee shall 
not keep such coupons alive. 

12. Provision for redemption of bonds. 

13. Provision for discharge of deed of trust. 

14. Provision for substitution or appointment of new 

trustee. 

15. Disclaimer of responsibility on part of trustee. 

16. Interpretation of terms used in deed of trust. 

17. Provision that deed of trust may be executed in 

duplicate. 

In addition to these common provisions, others are 
often dictated by particular conditions. Thus, if both regis- 
tered and coupon bonds are issued, provision must be made 
for registration and for the exchange of one kind of bond 
for the other if this is prescribed. Provisions may also be 
inserted for the issue of temporary certificates, or for re- 
placement of destroyed or mutilated bonds, or for dis- 
crimination against coupons detached or assigned before 
maturity, or for exemption of the stockholders and officers 
of the issuing company from all liability under the deed of 
trust or for the bonds issued thereunder. In a mortgage 
on realty it may be provided that upon payment to the 
trustee of a certain specified price, parts of the property 



230 CORPORATE BOND ISSUES 

may be sold free from the encumbrance of the mortgage, 
or that under prescribed conditions properties may be with- 
drawn from the mortgage and new properties substituted 
in their place. 

§ 209. Duties of Trustee 

The duties of the trustee under a deed of trust are 
usually few, but may be onerous. He certifies each bond 
issued. At times the recording of the deed of trust is made 
one of his duties. In case of default he is usually required 
either to take possession of the property and operate it or 
sell it, according to the conditions of the deed of trust, for 
the benefit of the bondholders. If called upon to operate 
the property, his duties and liabilities may be heavy. If 
the property is operated at a loss, he may be responsible 
for the deficit. 

The trustee makes an annual charge for the service 
rendered to the issuing corporation, but as a rule the duties 
are few and the fee correspondingly low. 

§ 210. Execution and Filing of Deed of Trust 

The deed of trust is executed with the same formality 
as a deed of land. It must be signed and sealed both by 
the corporation and by the trustee, and be duly acknow- 
ledged before a notary public or other duly authorized 
officer. The corporate signature is usually affixed by the 
president, and the corporate seal is affixed and attested by 
the secretary. The acknowledgment is also usually made 
by the president of the corporation, but is of equal force 
if made by the secretary, treasurer, or any other duly 
authorized executive officer. It is immaterial whether the 
deed of trust be executed within the state in which the 
corporation was organized or elsewhere. 

If realty is included, the deed of trust must be filed in 



BOND FORMS 



231 



the office of the county clerk in every county in which the 
real estate is situated. 

§ 211. The Bond Register 

If bonds issued by a corporation are sold through an 
underwriting syndicate, or through a bank or trust company 
which acts as transfer agent and registrar, the corporation 
need maintain no special record of the transaction beyond 
making the proper entries in its books of account. If, how- 
ever, the bonds are sold by the corporation direct, the 
treasurer or the accounting department must keep a more 
detailed record, and for this purpose a bond register is 
necessary. If coupon bonds are issued, a coupon register 
also must be kept for each denomination of bond. 

Registered bonds are, as already stated (§ 186), of two 
classes : ( 1 ) bonds which are registered both as to prin- 
cipal and interest, interest checks being issued on the speci- 
fied interest dates direct to the holders of record; and (2) 
bonds which are registered as to principal only, the interest 
being represented by coupons and therefore payable to the 
holders of these coupons upon surrender of the same. 

The principal record for the registered bond is the 
bond register. An index of bondholders is also usually 
maintained. This is merely a card list on which is entered 
the name and address of each bondholder, together with 
the number of his bond, its amount, and such other data 
as may be desirable. The card also provides for a record 
of the party from whom the bond was transferred, in case 
it is not an original issue, and blanks for name of party to 
whom it is transferred, in case of transfer. (See page 235.) 

§ 212. Form of Bond Register 

The bond register shown below provides space for the 
name and address of the holder, the number of his bond, 



232 



CORPORATE BOND ISSUES 






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BOND FORMS 



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234 CORPORATE BOND ISSUES 

the date it was acquired, the party to whom transferred, 
and twenty columns for twenty interest payments. Thus a 
complete record is provided for a ten-year bond on which 
interest is payable semiannually. 

When a registered bond is transferred, a new one is 
issued on surrender of the old, just as a new stock certificate 
is issued when stock is transferred. The surrendered bond is 
cancelled and filed, and in the bond register a red-ink line 
is ruled through the name and address of the former owner, 
and through the number and amount of the cancelled bond 
itself. Also the number of the new bond is written, directly 
after the last entry of interest payment on the old bond, as 
indicated on the form shown. A line ruled through the 
remaining interest columns then completely cancels the 
line devoted to the cancelled bond, though the original entry 
still shows the transfer of the old bond and the number of 
the new bond by which it was replaced. The name and 
address of the owner of the new bond is then recorded on 
the first vacant line of the bond register in the column 
headed "To Whom Issued/' and the record of the transfer 
is complete. 

As will be noted, the bonds are entered in numerical 
order, and any special bond may be readily located if its 
number is known. If the number is not known but the 
name of the owner is, the bond may be traced through the 
index of bondholders. If desired, the number of the page 
of the bond register on which the individual's name appears 
can be entered on the index of bondholders, a copy of which 
is shown on page 235. 

The difference between the footings of the "Amount" 
columns of the bond register and the sum total of all bonds 
cancelled — which is obtained by adding together all amounts 
through which the red-ink line is drawn — should agree with 
the balance of the Bond account in the general ledger. 



BOND FORMS 



235 



BOND NO. 

EUS5 



AMD1 IN T T/OOO; 



NAME MPJifdw, tyo?L<*J(&. 



CLASS 



BONDHOLDER'S ADDRESS 



TRANSFERRED TO 



Post Office 



92toJfUx? wfy- 



Name 



County 



State 



9ku>Lf*V& 



Address 



Street and No. 



Transferred from 



Index of Bondholders 



If the bonds are not coupon bonds, interest is computed 
on each at the half-yearly or yearly interest dates, and 
recorded under the proper interest period in the bond 
register. At the same time, interest checks are issued to 
the registered holders. The sum total of the footings of the 
"Interest" columns should agree with the total amount of 
interest checks issued, and is charged through the cash book 
to the "Accrued Interest on Bonds" account. This is on 
the assumption that accrued bond interest is entered 
monthly or at least prior to the date of payment. 

Interest checks are made out direct from the bond 
register. For the sake of accuracy, it is advisable to arrange 
' these interest checks alphabetically and compare the names 
of the payees with the names shown by the cards of the 
index of bondholders. This reduces to a minimum the 
possibility of checks being made payable to the wrong 
person. 

The register for coupon bonds does not show interest 
payments, but merely the ownership of the bonds. In such 
case the rulings for interest payments are omitted. The 



236 CORPORATE BOND ISSUES 

bonds are entered as presented for registry rather than 
numerically as is the case with registered bonds. 

§ 213. Payment of Coupons 

Coupons are generally presented for payment at the 
office of the fiscal agent or trustee, in envelopes specifying 
the title of the security, number and amount of the coupons, 
and the name of the concern or individual presenting them. 
Payment is made by check when possible, and, of course, 
out of funds supplied by the issuing corporation. The cou- 
pons are cancelled by having one or more holes punched in 
them ; all cancelled coupons are kept together, and at proper 
intervals are sent to the company which issued the security, 
with a statement of the account showing the total coupons 
paid and the amount still outstanding. 

The following is a form of report of coupons paid-: 

The Annuity Trust Company 

Philadelphia, Pennsylvania 
Gentlemen : 

We send you herewith by a package containing 

cancelled coupons amounting to $ , from 

bonds of your Company as set forth in the attached receipt, having 
been paid by us out of funds deposited by your Company for that 
purpose. 

Please sign and return the accompanying receipt. 
Very truly yours, 



Manager, Corporate Trust Department 
Report of Coupons Paid 



Attached to this report, or accompanying it, is a receipt 
setting forth the amounts and the numbers of the various 
cancelled coupons. This is signed by the company issuing 
the bonds and returned to the trustee. A common form of 
receipt reads about as follows : 



BOND FORMS 

Trust Department 

The Annuity Trust Company 
Philadelphia, Pennsylvania 

$ Date 



237 



Received of The Annuity Trust Company the following : 

coupons # for $ for interest 

due date on bonds of 

Company, numbered (here give the numbers of the coupons cancelled), 
duly cancelled and paid by said Trust Company out of funds deposited 
by this Company for that purpose. 



Treasurer 
Receipt for Coupons Paid 



§ 214. The Coupon Register 

Coupon bonds registered as to principal are entered in 
the bond register, and an alphabetical card index of bond- 
holders is provided for each denomination of bonds issued. 
A coupon register is also provided for the proper record 
of paid coupons. 

If coupon bonds are not registered, but are transferred 
by delivery, the bond register and the card index of bond- 
holders are, of course, unnecessary, the coupon register alone 
being maintained. This coupon register is shown below. 

An entire page of the coupon register is required for 
the record of each bond, and all paid coupons belonging 
to that bond are pasted on the page allotted to it in the 
space numbered to correspond with the particular coupon. 
The method of using the coupon register is simple. As will 
be noted, the number, the amount, and a brief description 
of each bond are entered at the top of the page devoted to 
that bond. As each coupon comes in and is paid, it is 
pasted over its number on this page. A glance at the 
coupon register will therefore show at any time what 



2 3 8 



CORPORATE BOND ISSUES 



E 455 



METROPOLITAN INVESTMENT CO. 

BOND REGISTER 
$1000 & 6% TRUST BOND 



Dated. 



ijW-/, l^Pue.^ 



0^AJ92L First Coupon di 



20 





16 


9 


2 




15 


8 


j CANCELLED J 

COUPON 
! J 



Coupon Register 

coupons have been paid and also what coupons are due 
but unpaid. 

A special bank account should be kept for the payment 
of coupons, and the balance of this bank account should 
agree with the total amount of the coupons due and unpaid 
as shown by the coupon register. 



CHAPTER XVII 

BOND SALES 

§215. Selling the Bonds 

After the bond issue is authorized and all other pre- 
liminary formalities completed, the important question is, 
"How can the bonds be sold to the best advantage?" This 
question can be answered only in the light of specific con- 
ditions — as, for instance, the stability of the issuing com- 
pany, the kind and condition of property offered as se- 
curity, whether or not the bonds are indorsed or guaran- 
teed by a stronger company, the rate of interest to be 
paid, the length of time to run, the redemption provisions, 
and the condition of the money market at the time of 
sale. The manner of disposing of the bonds and the 
agencies through which they are to be sold also have an 
important bearing upon the success of the issue. If they 
are sold through some well-known banking house, their 
attractiveness is much increased, for this practically 
amounts to an indorsement of the bonds, as such bankers 
before taking bonds for sale always make a careful inves- 
tigation of the reliability of the issuing company and of 
the conditions underlying the bonds. For this purpose 
the larger bond houses employ a staff of experts com- 
posed of engineers, appraisers, attorneys, accountants, etc. 

Large bond issues are nearly always sold to, or 
through, underwriting syndicates or financial institutions 
which make a business of such work. The syndicate or 
banker agrees to take the bonds at a certain figure and 
to assume the risk of selling them. If, as is sometimes the 

239 



2 4 o CORPORATE BOND ISSUES 

case, bonds are sold through a financial agent, this agent 
simply acts for the corporation, selling the bonds at the 
highest figure possible and receiving his compensation in 
commissions. 

Bonds may sell at, or below, their par value, or at a 
premium, depending upon the stability of the issuing com- 
pany and the rate of interest to be paid. The bonds may 
be all or partly sold at the time of issue, and those that 
have been disposed of may be paid for in monthly or 
periodical instalments. In any case, there are numerous 
expenses incident to a bond issue, and these may either be 
charged immediately to operating expenses or spread over 
a term of years. 

§216. Bond Issue Regulations 

A proposed bond issue of a public utility corporation 
must have the sanction of the public service commission 
of the state in which the corporation is located before it 
may be issued. This serves as a protection to the public 
at large, the stockholders of the corporation, and the pur- 
chasers of the bonds. Not only do these commissions 
regulate the bond issues of corporations, but they pre- 
scribe among other things the classifications of accounts 
to be used by companies operating within their jurisdic- 
tion. The following entries for bond issues of public 
utility companies are in accordance with commission regu- 
lations. 

Commission regulations place bond issues under the 
heading of "Funded Debt," each issue being designated 
by the kind and tenor of the debt obligation incurred. 
The manner of making entries, however, differs slightly, 
if at all, whether the bonds are of one kind or another. 
Commission regulations as to bond issues are very much 
the same in different states. 



BOND SALES 



241 



§ 217. First Mortgage Bonds Sold at Par 

To illustrate the sale of bonds at par, we will assume 
that the directors and stockholders of the Lenox Iron 
Works have authorized January 1, 191 6, an issue of first 
mortgage gold bonds for $1,000,000, having twenty years 
to run, with interest at 5%, payable semiannually on the 
first day of January and July. The bonds are coupon in 
form with the privilege of registration as to principal. 

Under these circumstances, it might be permissible to 
ignore the matter as far as the books of account are con- 
cerned, until the bonds are sold, at which time an entry 
would be made only for those sold, as shown below. It 
seems prudent, however, to have a transaction of such im- 
portance placed upon the books immediately. For this 
purpose, at the date of issue and before sale of the bonds, 
an entry is made as follows: 

January 1, 1916 

Unissued First Mortgage Bonds $1,000,000 

To First Mortgage Bonds $1,000,000 

Authorized issue of $1,000,000 first mort- 
gage 5% twenty-year gold bonds as 
sanctioned this day by .the directors 
and stockholders. 

Instead of "Unissued Bonds," some other appropriate 
title for the account may be used, if desired, as "First 
Mortgage Treasury Bonds," "Unsold First Mortgage 
Bonds," etc. The credit entry may, if desired, be made 
to "First Mortgage Bonds Payable," "Authorized First 
Mortgage Bonds," "Bonds Payable," or any other caption 
that will designate the issue clearly. If there are differ- 
ent issues, the caption may distinguish them by indicating 
the interest rate, the life, or the due date of the bonds, as 
"First Mortgage 5% Gold Bonds of 1950" or "First Mort- 
gage 6% Twenty- Year Bonds," etc. 



242 CORPORATE BOND ISSUES 

§218. Entry on Sale of Bonds 

If the entire issue of .bonds is sold by the issuing 
company for cash, the following entry* should be made: 

Cash $1,000,000 

To Unissued First Mortgage Bonds $1,000,000 

Sale at par of the entire issue of first 
mortgage bonds as authorized by the 
directors. 

In case the bonds are paid for in property of some 
kind, then, of course, the property received is debited in 
place of cash. 

If the bonds were not recorded on the books at the 
time of authorization, the cash book entry would be: 

Cash $1,000,000 

To First Mortgage Bonds $1,000,000 

Sale at par of the entire issue of first 
mortgage 5% twenty-year gold bonds 
as authorized by the directors. 

In case only a part of the bond issue has been taken 
at the date of issue, then a cash book entry to Unissued 
Bonds account must be made for only the sum taken. 
Subsequent sales of bonds for cash should be recorded in 
the same manner. In the sale of bonds after date of issue, 
however, the element of accrued interest is involved in the 
sale price and must be included. 

Unsold bonds should not appear as an asset in the 
balance sheet. In order that the sold and unsold bonds 
may be clearly distinguished, they should appear in the 
balance sheet about as follows: 

First Mortgage 5% Gold Bonds: 

Total Amount Authorized $1,000,000 

Less Unsold Bonds 500,000 

Bonds Issued and Outstanding $500,000 

*A11 cash book entries are, as a matter of convenience, shown in journal form. 



BOND SALES 243 

§ 219. Bonds Sold at Par and Accrued Interest 

Inasmuch as the entire bond issue bears the date of 
authorization, it is apparent that interest will have accu- 
mulated on all bonds sold on subsequent dates. It mat- 
ters not whether the bonds are sold at par or otherwise; 
interest will have accrued on the par value thereof to the 
date of sale, and the investor is expected to add it to the 
purchase price of the bonds. In that case the cash book 
entry would be as follows, assuming- that $500,000 of 
bonds were sold three months after the bonds were 
issued. 

April 1, 1916 

Cash $506,250 

To Unissued First Mortgage Bonds $500,000 

" First Mortgage Bond Interest 6,250 

Sale of $500,000 of first mortgage bonds and 
accrued interest on same at 5% for three 
months. 

Payment of the full amount of accrued interest is in 
effect a payment of interest before it is due, and in the 
present illustration the purchaser loses the interest on 
$6,250 from date of payment until the next interest date, 
i.e., three months. Outside of this, there is neither a loss 
nor a profit to either party, since in three months after 
the given date the company will pay the entire interest on 
all outstanding bonds for the first half-year; at that time 
the purchaser will receive back the interest money ad- 
vanced by him, and in like manner the company will re- 
turn the interest thus received. If the sale were deferred 
until the first or some subsequent interest date, accrued 
interest would not enter into consideration at all, for at 
that time the company would clip all coupons from the 
unsold bonds and, after cancellation, paste them in the 
coupon register without further entry. 



244 CORPORATE BOND ISSUES 

§ 220. Bond Subscriptions Paid For in Instalments 

If bonds are sold directly to the public by the issuing 
company, or even through brokers on a commission basis, 
it is not unusual to allow the purchasers a term of months 
in which to make their payments, the instalments being 
due at designated intervals. If the present bond issue had 
been sold to subscribers on the instalment plan, the entry 
would be: 

January I, 1916 

Bond Subscriptions $1,000,000 

To Unissued First Mortgage Bonds.. $1,000,000 

Sale of $1,000,000 of bonds to sundry 
subscribers at par, payable one- 
quarter down and the balance in three 
monthly payments of one-quarter each 
on the first day of each month. ( Names 
of subscribers should be entered on 
separate sheets or in a subsidiary sub- 
scription ledger provided for the 
purpose.) 

Bond Subscriptions should be credited as payment of 
each instalment is made, and official receipts be issued 
therefor. When payments are completed, the instalment 
receipts are returned and the bonds issued. The deferred 
instalments may perhaps bear interest at a given rate, or 
at the same rate the bonds are to draw, in which case an 
additional credit to Bond Interest account for the interest 
received is necessary, which in turn will offset an equiva- 
lent charge to the same account. Monthly balance sheets 
made during the interval would of course show the amount 
of bond subscriptions deferred. 

Instalment payments may obtain when bonds are sold 
to the company's bankers. In that event the entire con- 
tract amount, after allowance for discount, if any, should 
be charged up to the brokers as shown below: 



BOND SALES 



245 



Barton and Day, Bankers $1,000,000 

To Unissued First Mortgage Bonds 

(or to First Mortgage Bonds) $1,000,000 

Entire issue of first mortgage bonds sold 
at 100 flat, payable $400,000 down 
and the balance in two instalments of 
$300,000 each, due in one and two 
months respectively. 

Credit is, of course, given Barton and Day, as payments 
are made by them. 

§221. Guaranteed Bonds 

When bonds of one corporation are guaranteed by 
another corporation, it is manifest that the guaranteeing 
corporation must constantly hold itself in readiness to pay 
the bond interest upon any default on the part of the 
issuing company; but were such payment made, it would 
be considered only as an advance or loan to the subsidiary 
company, from whom repayment would be expected at 
some future date. The entries to be made on the issuing 
and guaranteeing companies' books should be in harmony. 

As to whether or not a ledger entry is required by 
either company at the time bonds are guaranteed, as an 
official record of the conditions, depends on the wishes of 
the directors. If a minute of such guarantee is clearly set 
forth in the official records of each company, that should 
suffice, since the fact of the guarantee is conspicuously 
stated in the bonds themselves as well as in the deed of 
trust. A foot-note of the guarantee should, of course, be 
made on the balance sheet of the guaranteeing company. 

§ 222. Entries for Collateral Trust Bonds 

As previously stated (§ 196), collateral trust bonds 
are bonds secured by a deposit of stocks and bonds of 
other corporations. This "collateral" usually represents 



246 



CORPORATE BOND ISSUES 



the company's entire or partial ownership of companies 
in the same or similar lines of business, and located in its 
own or in adjoining territory. The collateral stocks and 
bonds are deposited with a trustee in accordance with the 
trust agreement, and the market value of these securities 
is usually considerably more than the bonds which they 
secure. 

Collateral trust bonds are frequently issued in the form 
of short term notes, or collateral trust serial notes,, and 
when issued by underlying companies they may even be 
"guaranteed" by the holding, leasing, or parent company. 
The "guarantee" is not infrequently given by one or more 
individuals who are financially able to act as surety. 

The book entries for collateral trust bonds do not 
differ materially from those required for recording regular 
mortgage bonds. With the mortgage bond, however, 
though a conveyance under trust mortgage is made to the 
trustee, the real estate security remains in the company's 
possession; while in the case of the collateral bond, all of 
the security is placed in the hands of the trustee. The 
terms of the trust indenture usually provide that the 
collateral may be changed at any time for other collateral 
of equal value, either at the request of the issuing company 
or of the trustee. 

The collateral security must be conveyed to the trustee 
before the actual sale of bonds begins, though this con- 
veyance does not deprive the company of its rights and 
privileges as owner of the collateral, such as voting at 
meetings of stockholders, receiving the income from its 
investment, etc. The question now arises, what kind of 
record should be made for the collateral deposited with 
the trustee? An adequate record of the transfer should, 
of course, be made in the official minutes, and the Public 
Service Commission of New York requires that the pledged 



BOND SALES 



247 



collateral must be set forth in an account by itself. Cor- 
porations not subject to commission regulations may 
make entries in any logical manner, but in all cases it seems 
desirable to set forth in a separate account all pledged 
securities. 

The stocks and bonds used as collateral, when first 
purchased, are usually entered on the books at the pur- 
chase price regardless of par value, and are charged to 
some representative account, as "Investments" or "Stocks 
and Bonds of Other Companies," or to accounts repre- 
senting the kinds of securities purchased. 

On the assumption that the collateral is standing in 
an "Investments" account and has a book valuation of 
$1,340,000, the following entry is required to suitably 
record the conditions: 
Pledged Investments (To secure collateral 

trust bonds) $1,340,000 

To Investments $1,340,000 v 

To record the pledge of the following 
collateral with the Hudson Trust 
Company, as security for the issue 
of $1,000,000 collateral trust bonds: 
(Here list details of the stocks and 
bonds pledged.) 

The above entry removes the collateral entirely from 
the Investments account and leaves therein only such 
securities as are still in the company's possession; while 
the Pledged Investments account exhibits the book value 
of securities in the trustee's possession. In a manufac- 
turing corporation an account might be opened with the 
trustee and the collateral security stated therein. If there 
are several bond issues, it is desirable to have separate 
accounts for the pledged collateral belonging to each issue. 

It is obvious that the securities pledged to secure 
collateral bonds will fluctuate in value in harmony with 



2 4 g CORPORATE BOND ISSUES 

business conditions, and, if listed securities, their market 
value can be noted at any time. A permanent reduction 
in the value of the collateral deposited, or in any of the 
investments held by the company, should be recorded in 
the company's accounts by a charge to Profit and Loss 
and a credit to the accounts affected. In case the value 
of the listed securities rises, the change of value might be 
recorded if it were thought desirable so to do, by a charge 
to the accounts affected and a credit to Profit and Loss. 
In case the pledged collateral falls below a given margin 
of safety, the trustee has the right to call for an additional 
deposit. 

Corporations which have a considerable investment 
in stocks and bonds usually provide separate books for 
recording the details of such investments. When this is 
the case, a notation in the accounts affected might perhaps 
be considered a sufficient record of securities deposited as 
collateral, but the entry shown above is preferable since 
it provides a more systematic record of the conditions. 

§ 223. Entries for Short Term Notes 

The opening entries for short term notes do not differ 
from those required for collateral trust bonds. An entry 
should, of course, be made crediting the entire issue of 
notes under whatever caption is necessary, as "Three- Year 
Notes," 'Two-Year Collateral Trust Notes," etc., and 
debiting the cash received and selling expense. In case 
the notes are secured by collateral, an entry for the 
securing collateral is necessary as explained in the pre- 
ceding example. 

§ 224. Entries for Equipment Trust Serial Bonds 

Equipment trust bonds, or car trust bonds (frequently 
called certificates), are secured by a mortgage on all or a 



BOND SALES 249 

part of the equipment of a railway company. The trust 
agreement by its terms is in the nature of a lease. In 
other words, the transaction is a conditional sale, the 
company paying each year an annual instalment on the 
bonds, and the trustee — acting for the persons who ad- 
vanced the money — holding a lien on the entire property 
specified until the last instalment, or rental, is paid, at 
which time a release is given. The bonds or certificates 
are usually put out in series, from time to time, as each 
succeeding series is issued, as "Series A," "Series B," 
"Series C," etc. As they are secured on the equipment, 
the margin of security increases automatically as the 
annual instalments are paid. These usually begin to 
mature early in the life of the property. Under the trust 
indenture, each car, locomotive, or other chattel is plainly 
marked so as to identify the mortgaged property, which 
the company must maintain in proper efficiency. While 
the equipment comes at once into the possession of the 
railway company, the full ownership is, from the nature 
of the case, deferred until the final bond instalment is paid, 
when the trustee releases the title to the company. 

To illustrate the entries required when equipment trust 
bonds are sold, assume that the Green Valley Railway 
Company has issued equipment trust 5% gold bonds dated 
July 1, 191 6, for $4,000,000, payable in instalments oT 
$400,000 each year beginning July 1, 191 7; the bonds are 
secured by new standard equipment costing $5,000,000, 
upon which an initial payment of $1,000,000 has been 
made by the company. Since the issue of equipment or 
car trust certificates is subject to commission regulations, 
these regulations must be followed in making the entries. 
Assuming that the equipment was purchased through, and 
the bonds given to, Murray Brothers & Co., bankers, at 
95, and that a trust mortgage is made to a trustee as 



250 CORPORATE BOND ISSUES 

security for the bondholders, and that expenses connected 
with the issue amount to $6,ooo, the required entries are 
as shown below. 

When the trust is created and the first payment of 
20% is made on account of the equipment, the entry is : 

July i, 1916 

Equipment $1,000,000 

To Cash $1,000,000 

Initial payment of 20% on the follow- 
ing equipment costing $5,000,000 pur- 
chased through Murray Brothers & 
Co., for which $1,000,000 is paid in 
cash and the balance is satisfied by 
equipment bonds. (Here give details 
of the equipment and bonds, or else 
refer to the agreement where they 
can be found.) 

If thought preferable, the above and following pay- 
ments might be put through the account of the bankers, 
who are holders of the lien; Equipment and Leased 
Equipment being debited and the bankers credited with 
the entire purchase price of the equipment. 

July 1, 1916 

Leased Equipment $4,000,000 

To Equipment Trust 5% Bonds $4,000,000 

For issue of equipment trust bonds in 
denominations of $1,000, being balance 
of payment of equipment purchased 
through Murray Brothers & Co., 
Bankers, as per trust agreement. The 
bonds mature $400,000 on July 1 of 
each year during the next ten years. 

Expense on Equipment Trust Bonds $6,000 

To Cash $6,000 

Expenses incurred in connection with the 
issue of equipment trust bonds. 



BOND SALES 



251 



As each bond instalment matures and is paid, an entry- 
is required in the bond account and also in the Equipment 
account, since the portion paid must be transferred from 
"Leased Equipment" to the "Equipment" account. The 
equipment is required, of course, to be fully and adequately 
maintained by the operating company. The entries for 
interest are required to be made semiannually, and 
monthly adjustments should be made to distribute the 
interest over its period. The instalment entries are: 

July 1, 1917 

Equipment Trust 5% Bonds $400,000 

To Cash $400,000 

First instalment on equipment trust bonds 
paid this day, per trust agreement. 

At the same time, and at each instalment date there- 
after, the following transfer entry is required : 

Equipment $400,000 

To Leased Equipment $400,000 

For transfer to the Equipment account, of 
property covered by current instalment. 



CHAPTER XVIII 

BOND INTEREST 

§ 225. Paying Bond Interest 

Under the terms of the usual trust deed securing a 
bond issue, the trustee is empowered to enter upon and 
foreclose the mortgage upon default of interest payment. 
Therefore, the company is bound to meet its bond interest 
obligations, or else face a foreclosure suit with its possible 
receivership or bankruptcy. Whether the profits are suf- 
ficient or not to meet fixed charges, the bond interest 
must be paid. 

Bond interest is usually paid semiannually from the 
date of issue, but it may be paid quarterly or annually. 
Interest on registered bonds is paid to the registered 
holders by checks sent out at interest periods by the 
company itself or by its fiscal agent, while interest on 
coupon bonds is paid upon presentation of the coupons 
at the office of the company or of its fiscal agent. The 
coupons are sometimes made payable at any one of two 
or three different agencies. Owners of coupons may either 
send them direct to the issuing company or agency and 
receive a cash remittance in exchange, or deposit them 
in their local banks for collection. (See also § 185, and 
Chapter XVI.) 

§ 226. Method of Handling Interest Coupons 

Using the bond issue of $1,000,000 5% gold bonds of 
the Lenox Iron Works, cited in the preceding chapter, 
we assume that the first interest period, July 1, 1916, has 

252 



BOND INTEREST 



253 



arrived and that $25,000 has been turned over to the 
company's fiscal agent for payment of the coupons as they 
are presented. On the company's books the only entry 
required at the time is the following, which, of course, 
should appear in the cash book : 

July 1, 1916 

Bond Interest $25,000 

To Cash $25,000 

For payment of semiannual bond interest on 
$1,000,000 5% bonds, due today at the office 
of the trustee, The Grove Street Trust 
Company, to whom the check has been 
issued. 

The preceding entry is made immediately on sending 
the interest check to the trust company or bank where 
the coupons are payable. This check is usually sent the 
day before the interest is payable or perhaps sooner, de- 
pending on the distance. When the coupons are paid and 
cancelled, they are then turned over to the issuing com- 
pany and by them pasted in the coupon register (§ 214), 
or otherwise disposed of. 

In case the interest coupons are payable at the ofiice 
of the company, it is obvious that, with the simple 
accounting system assumed, no entry would be necessary 
until the coupons were presented and paid. Even when 
the coupons are payable at the company's ofiice, a special 
bank account is frequently opened for their payment, a 
check being drawn for the full amount and deposited 
under a special account. If the coupons were all paid on 
the due date, the entry would be similar to that given 
above, the explanation showing that payment was made 
at the office. It is but rarely, however, that this happens, 
and when it is not the case, entry is, of course, made only 
for the coupons presented and paid. The amount still 



254 CORPORATE BOND ISSUES 

outstanding can easily be calculated, but the bond interest 
account itself will not show its correct debit until all of 
the coupons have been paid. It is apparent, therefore, 
that at the end of each year the books must either be kept 
open until all coupons come in, or present an incomplete 
record comprising only such bond interest as has been 
paid. Neither of these plans meets the needs of present- 
day accounting. The most approved plan is to set up at 
each interest date the amount of interest due. Assuming 
that this plan is adopted, the following entry is necessary 
at the end of the preceding month : 

June 30, 1916 

Bond Interest $25,000 

To Bond Interest Payable $25,000 

For half-yearly bond interest due and pay- 
able tomorrow. 

Instead of ''Bond Interest Payable," the account might 
be termed ''Coupons Payable" or "Bond Interest Ac- 
crued." There is a difference, however, between interest 
"due and payable" and interest "accrued." For instance, 
on June 1, 1916, the larger portion of the interest on the 
bonds for the period under consideration has accrued, but it 
is not due and payable until July 1, 191 6. 

Outstanding coupons continue to be obligations of the 
company until paid. As the coupons are redeemed, 
charges are made against Bond Interest Payable account, 
so that the excess credit to this account will show at any 
time the liability on outstanding coupons. If there are 
several bond issues, an Interest Payable account might be 
set up for each. 

Assuming that all of the bond coupons were paid by 
the company on the due date, we have the following 
entry: 



BOND INTEREST 



255 



July 1, 1916 

Bond Interest Payable $25,000 

To Cash $25,000 

For interest coupons presented and paid this 
day. 

At the end of each year, if not oftener, the Bond 
Interest account should be closed into Profit and Loss 
or into such other account as the system in use may 
call for. 

§ 227. Interest on Registered Bonds 

In the case of registered bonds, interest checks are 
usually sent by the treasurer of the company direct to the 
holders, though not infrequently the checks are sent by 
the fiscal agent. They are usually mailed so as to reach 
the payees on the date when the interest is due or as soon 
as possible thereafter. The book entries for accruing and 
paid interest on registered bonds do not differ from those 
required and illustrated for interest on coupon bonds. An 
alphabetical list of the registered bondholders entitled to 
receive interest checks must be prepared for each interest 
period. 

§ 228. Bond Interest Accrued Monthly 

Nearly all large corporations require monthly state- 
ments of income and operating expenses and statements 
of condition, so that it becomes necessary at the end of 
each month to compile the various expenses belonging to 
that period. These expenses obviously comprise not only 
the current expenses and pay-roll, but a proportionate 
share of prepaid and accruing charges, as interest, dis- 
count, taxes, insurance, etc. Bond interest is generally 
payable half-yearly, so that each monthly statement 
should include one-sixth of the half-yearly fixed interest 



256 



CORPORATE BOND ISSUES 



charge. As an offset to each monthly interest apportion- 
ment, a corresponding credit is set up to "Accrued Bond 
Interest," or ''Accrued Interest Coupons," or "Accrued 
Bond Coupons," or some other account that will clearly 
designate the interest obligation. Such entries are made 
through the journal. For example, referring to the 
previous illustration, if the half-yearly bond interest of 
$25,000 is to be accrued in monthly proportions, an entry 
is required at the end of each month as follows: 

January 31, 1916 

Bond Interest $4,166.67 

To Bond Interest Accrued $4,166.67 

Accrual of interest on $1,000,000 of 5% 
bonds for month of January. 

A similar entry should be made at the end of each 
succeeding month. A like entry is necessary for registered 
bond interest, and for interest on any other bond or 
mortgage obligation, and even for interest accruals on 
current liabilities. Monthly entries are necessary also for 
interest accruing on investments and receivables, especially 
when monthly statements are required. 

At the end of each six months the bond interest is 
paid, Cash being credited, and the "Bond Interest Ac- 
crued" account closed by the corresponding debit; but 
whether or not the "Bond Interest" account is closed at 
the same time depends on the closing dates adopted bf 
the company. As a rule, it remains open until the end of 
the fiscal year, though at any time during the year it 
shows the cumulative total for all of the months as well 
as the interest for each month. Sometimes the ledger 
accounts are closed monthly, in which case the Bond 
Interest account is closed into Profit and Loss twelve 
times a year. 



BOND INTEREST 



*57 



§ 229. Interest on Two or More Bond Issues 

Definite examples of entries to fit all bond interest 
conditions cannot well be given. Those already given, 
with those which follow, illustrate their general character 
and are in accordance with the entries employed by many 
of the larger corporations. Each entry must indicate for 
what purpose it was made and the conditions involved. 
Monthly entries are made for accruing bond interest on 
the various bond issues and for the several series of any 
particular issue. An account is opened for each separate 
obligation as a rule, and sometimes for each part issue 
thereof. 

As a basis for the entries which follow, assume that 
January 1, 1916, first mortgage 5% bonds are issued for 
$2,000,000, interest payable April 1 and October 1 ; also 
first and refunding 6% mortgage gold bonds for $4,000,- 
000, interest payable January 1 and July 1. At the end 
of June, the following entry is necessary to record the 
interest accruals for the month, similar entries having been 
made for the intervening months. 

June 30, 1916 

Interest on Funded Debt $28,333.34 

To Accrued Interest on Bonds $28,333.34 

Monthly interest accrual on outstanding 
bonds as follows: 

Bonds Accrued 

Outstanding Interest 
First mortgage 

5% bonds... $2,000,000.00 $8,333.34 
First and re- 
funding 6% 
bonds 4,000,000.00 20,oooi00 



$6,000,000.00 $28,333.34 
When several series of bonds are outstanding, it may 



258 



CORPORATE BOND ISSUES 



be advisable to open an interest account for each series, 
as "Accrued Interest on Bonds — Series A," "Accrued 
Interest on Bonds — Series B," etc. Of course, in a book- 
keeping system where the voucher is in use, a journal 
voucher would be made out for the above entry, giving 
full details respecting the interest applications, as "Ac- 
crued Interest on First Mortgage 5% Bonds," and 
"Accrued Interest on First and Refunding 6% Mortgage 
Bonds." 

Since the coupons of the first and refunding mortgage 
6% bonds are now due, an entry is made setting up the 
liability for the particular coupon and closing off the 
portion of interest accrued to date, thus: 

June 30, 1916 

Accrued Interest on Bonds $120,000 

To Bond Coupon No. 9, Due July 1, 

1916 (A Co. 6's) $120,000 

For six months' interest due July 1, 1916, 
on $4,000,000 of first and refunding 6% 
gold bonds. 

An entry similar to the above is required each time 
the coupons on any particular bond issue fall due. At 
the same time a check is issued to the financial agent for 
redemption of the coupons No. 9 as they mature. The 
entry is: 

The Globe Trust Company, Trustee $120,000 

To Audited Vouchers (or Cash) $120,000 

For payment of six months' interest due 
July 1, 19 16, on $4,000,000, etc. 

It will be seen now that all No. 9 coupons are standing 
on the ledger as a liability and so remain until paid, no 
matter how long that may be; also that there is a cor- 
responding charge to the trustee for an equivalent amount. 



BOND INTEREST 



259 



The trustee renders a report at the end of each month, 
setting forth the amount and number of coupons paid to 
date, all of which are turned over to the company for 
cancellation. At that time an entry is made for as many 
coupons as may have been paid. For illustration we will 
assume that $84,800 of the above amount has been pre- 
sented and paid, requiring this entry: 

July 31, 1916 

Bond Coupon No. 9, Due 7/1/16 (A Co. 6's) $84,800 

To The Globe Trust Company, Trustee. . . $84,800 

For interest coupons paid by The Globe Trust 
Company, Trustee, during the month of 
July, 1916, as per statement rendered. 

If more than one class of coupons were paid, they 
would also be debited in like manner. For the first 
mortgage 5% bonds, similar entries are required at the 
end of September. At the end of the fiscal year or half- 
year, the account for the interest on bonds must, of 
course, be closed into Profit and Loss. At that time 
Bond Interest accounts for any and all issues or series, 
whether accrued for the full year, or only for one month, 
must be closed off. 

§ 230. Interest on Treasury Bonds 

Treasury bonds (see § 176), for the present considera- 
tion, are understood to comprise the issuing company's 
own bonds which have been acquired by purchase or 
donation. This ownership, so long as the bonds have not 
been cancelled, makes no difference in the manner of 
handling or accruing bond interest payable. The monthly 
accruals are set up as usual, and the interest check handed 
over to the paying bank at the proper date, while the 
bank in turn cashes the bond coupons presented for pay- 



2 6o CORPORATE BOND ISSUES 

ment, regardless of ownership or of the sources from 
whence they come. The issuing company, on the other 
hand, treats the treasury bonds as investments, the same 
as bonds of other companies, and collects the income 
therefrom in like manner. In case monthly accruals of 
$10,000 income from treasury bonds and other invest- 
ments are required to be set up, an entry should be made 
at the end of each month about as follows: 

January 31, 1916 

Accrued Income from Investments $10,000 

To Income from Investments $10,000 

For accrued income on investments for one 
month, as follows : (Recite the amount, rate, 
etc.) 

If it is desired that the income from treasury bonds 
be kept separate from that of other investments, debit 
Accrued Income from Treasury Bonds and credit Income 
from Treasury Bonds. 

As the cash is received in payment the following cash 
book entry is required on the due date: 

July 1, 1916 

Cash $60,000 

To Accrued Income from Investments $60,000 

For cash income on investments due today as 
follows: (Recite details of investments.) 

At the end of each fiscal period the Income from 
Investments account is closed to Profit and Loss as 
follows: 

December 31, 1916 

Income from Investments $120,000 

To Profit and Loss (or Income) $120,000 

To close into Profit and Loss, being total 
income for the year from investments. 



BOND INTEREST 2 6l 

If income is derived from several disconnected sources, 
it might be advisable to open separate accounts to dis- 
tinguish them from one another, as Income from Bonds, 
Income from Real Estate Investments, Income from 
Dividends, etc. 

§231. Interest on Guaranteed Bonds 

Interest payments on guaranteed bonds are handled 
in the same manner as those of any other class of bonds. 
The issuing company pays the interest in the usual way 
if it is able. In case it is unable to do so, the guaranteeing 
company must make the payment, which must obviously 
be considered an advance to the subsidiary company, to 
be repaid at some future date. At the time of the advance, 
a cash book entry should be made as follows: 

Advances to Subsidiary Company (giving name 

of company) $25,000 

To Cash $25,000 

For payment of interest due this day on $1,- 
000,000 of guaranteed 5% bonds of The 
Company. 

On the books of the issuing company the following 
entry is required: 

Bond Interest (or Bond Interest Accrued) $25,000 

To Advances from Company $25,000 

(Full explanation here.) 

The entries may, of course, be very different from those 
shown, depending upon the agreement existing between 
the two companies; but in any case the matter should 
be clearly set forth in each company's books. 

§ 232. Interest on Income Bonds 

Since income bonds are to all intents and purposes 



262 CORPORATE BOND ISSUES 

the same as preferred stock, it is manifest that the book 
entries for the interest thereon would be practically the 
same as those required for dividends when declared. As 
in the case of stock, interest on income bonds can be paid 
only when the company's profits are sufficient to justify 
such payment; therefore, as a rule no entry is necessary 
or advisable until the directors decide whether or not it 
shall be paid. On the other hand, when it is practically 
assured that the interest coupons will be paid, monthly 
entries for accruing interest are in order. Income bonds 
generally contain half-yearly coupons, though their pay- 
ment, of course, is contingent upon the company's 
earnings. When declared at the interest date the follow- 
ing entry is made: 

December 31, 1916 

Interest on Income Bonds $25,000 

To Interest Payable on Income Bonds.... $25,000 

For interest at 5% on income bonds for six 
months, declared by the directors and pay- 
able January 1, 1917. 

The Interest account is closed into Profit and Loss. 
Note that instead of the word "interest," we might use 
the word "dividend." When the interest is paid, the cash 
entry should be as follows: * 

January 1, 1917 

Interest Payable on Income Bonds $25,000 

To Cash $25,000 

For payment of interest on income bonds. 

§ 233. Interest on Special Bond Issues 

The principles already stated for the entry of bond 
interest apply in handling the interest on all other bond 
issues where registered and coupon bonds are used, 



BOND INTEREST 263 

whether secured or otherwise. Profit-sharing or par- 
ticipating bonds require extra entries for setting aside the 
share of profits apportioned to them, which in turn would 
be paid by check or otherwise, as the case might be. 

§ 234. Interest Charged to Construction 

The Interstate Commerce Commission and the various 
state public utility commissions permit the capitalization 
of various charges during periods of construction. This 
principle might apply equally as well to corporations not 
under commission regulation, so long as the charges capi- 
talized are actual and legitimate and expended during 
the construction of plant, or extension of property and 
equipment. Real estate development companies and other 
similar enterprises generally include certain "loading" 
charges as part of the development or construction cost. 
Such charges may include development expenses, interest 
on bonds and loans, legal and other direct expenditures, 
proportion of bond discount, etc. These items are usually 
charged to the appropriate accounts; and then at the end 
of the year, or upon completion of the construction, a 
transfer entry is made to place them in the Construction 
account — or to such other account as may be proper. 

The following entry shows the manner in which such 
transfers should be made: 

December 31, 1916 
Construction Account (or Plant and Equipment) $42,000 

To Construction Expenses $20,000 

" Bond Interest 10,000 

" Loan Interest 4,000 

" Bond Discount 8,000 

To close above accounts into Construction ac- 
count, being all of the construction expenses 
and interest, and the proportionate amount 
of the bond discount for the period. 



264 



CORPORATE BOND ISSUES 



Many corporation officials advocate the addition of 
all bond discount and expense to plant account, especially 
if the bond issue was created for extension of the plant; 
but this is not good practice, since the manufacturing 
account through depreciation charges would eventually 
be made to bear a considerable portion of the expense of 
financing the company. 

§ 235. Income from Investments 

Income from investments other than treasury bonds 
is handled in the same manner as explained above. Divi- 
dends from stock investments, however, should not be 
entered as accrued monthly income, or entered in any 
other way until the dividend has actually been declared. 

A plan of entering income from investments that 
differs slightly from the one suggested under "Interest 
on Treasury Bonds" is given below. Assume that Com- 
pany A owns $1,000,000 of Company B's 6% bonds, 
payable January land July 1. At the end of each month 
the following entry should be made on Company A's 
books for the accrued income: 

January 31, 1916 

Accrued Interest on Bonds Owned $5,000 

To Interest on Bonds Owned $5,ooo 

(Full explanation' here.) 

At the regular interest dates, July 1 and January 1, 
or in fact the day preceding, the following entry should 
be made: 

June 30, 1916 

Company B $30,000 

To Accrued Interest on Bonds Owned $30,000 

(Full explanation here.) 



BOND INTEREST 265 

When the bond coupons are presented to the paying 
bank and the cash received therefor, the following entry 
is required: 

July 1, 1916 

Cash $30,000 

To Company B $30,000 

(Full explanation here.) 

It is apparent, of course, that this could be handled very 
differently so long as it records the matter adequately and 
clearly. The debit in the first entry might be to Accrued 
Interest Receivable or Accrued Interest on Bonds Receiv- 
able. The second and third entries could be consolidated 
into one, debiting Cash and crediting Accrued Interest on 
Bonds Owned. 



CHAPTER XIX 

BOND DISCOUNT AND PREMIUM 

§ 236. Bonds Sold Above or Below Par 

When bonds are sold, the standing of the issuing com- 
pany and its ability to pay all obligations at maturity have, 
of course, a direct and important bearing on the price 
secured. A strong, well-managed corporation may be able 
to sell a 4j^% or 5% bond near to or above par, while 
another company not so well known or not so strong finan- 
cially may be unable to sell a 6% bond save at a considerable 
discount. 

For instance, the issue of $49,000,000 consolidated 
mortgage 4/4 % gold bonds of the Pennsylvania Railroad 
Company, dated February 1, 19 15, due in i960, was offered 
through a prominent banking house of New York and 
promptly taken up at 103^ an d over, and accrued interest 
to date of delivery. At this price the investor got but little 
over 4^ % on his investment, but the undoubted stability of 
the company, its careful management, and the ready market 
for the bonds in case the investor should wish to sell, made 
them very attractive. Also, the fact that these bonds were 
a legal investment for savings banks in several states, and, 
by agreement of the company, free from taxation under 
present or future laws of the State of Pennsylvania or of 
the United States, added to their desirability. 

On the other hand, April 1, 19 16, the Chesapeake and 
Ohio Railway Company issued $40,180,000 of 5% con- 

266 



BOND DISCOUNT AND PREMIUM 267 

vertible thirty-year secured gold bonds, carrying many de- 
sirable features. These were debenture bonds offered also 
through a strong New York banking concern, but they sold 
at approximately 95 with interest to date of sale. 

In both of these cases the bankers through whom the 
bonds were sold were of undoubted strength, and the dif- 
ference in price clearly reflected the relative desirability of 
the bonds from the standpoint of the investor. In the case 
of the Pennsylvania bonds, every desirable feature was 
present. In the case of the Chesapeake and Ohio bonds, the 
preceding financial history of the road had an adverse in- 
fluence and the general conditions under which the bonds 
were issued were not as satisfactory as in the case of the 
Pennsylvania bonds. As a result, the Pennsylvania bonds 
sold at a premium of 3J4% an d over, and the Chesapeake 
and Ohio bonds at a discount of approximately 5%. 

§ 237. Bonds Sold Between Interest Dates 

When bonds are sold at other than the regular interest 
dates, allowances must, of course, be made for accrued 
interest in determining the price actually received for the 
bonds. For instance, a bond bearing interest at the rate of 
6% per annum, payable semiannually, January 1 and July 1, 
must receive its 3% on the interest date regardless of when 
it was sold. If, then, such a bond were sold March 1, interest 
has accrued to the amount of 1 % , and this must be deducted 
from the amount received to determine the real price of the 
bond. If the amount received for the bond were 103, it is 
obvious that 1% on the face of the bond must be allowed 
for the accrued interest, and this being deducted leaves 102 
as the price actually received for the bond. 

If the bond were sold for 100, there would obviously be 
a discount of 1 % on the transaction, the actual price of the 
bond being 99. 



2 68 CORPORATE BOND ISSUES 

§ 238. Expenses of Bond Issue 

Many authorities consider the expenses incurred in the 
floating of a bond issue as directly chargeable to the cost of 
the issue, in the same manner as discount on the bonds. The 
Public Service Commission of the First District of New 
York includes among such expenses the following: "All 
expenses connected with the issue and sale of evidences of 
debt, such as fees for drafting mortgages and trust deeds, 
fees and taxes for recording mortgages and trust deeds, 
cost of engraving and printing bonds, fees paid trustees 
provided for in the mortgages and trust deeds, fees and 
commissions paid underwriters and brokers for marketing 
such evidences of debt, and other regular expenses. " 

§ 239. Entries for Bond Discount and Expense 

To illustrate the disposition to be made of discount on 
bonds and the other expense inevitable in connection with 
a bond issue, we will assume that the bond issue of 
$1,000,000 of the Lenox Iron Works was sold for cash at 
90 flat, and that expenses incurred in connection with the 
issue amounted to $5,000. The bond discount may be 
charged under "Discount on Bonds" or some other suitable 
title, and the expense, to "Expense of Bond Issue" ; or both 
the discount and expense may be charged to one account, as 
"Bond Discount and Expense." The entry for the sale is : 

January 1, 1916 

Cash $900,000 ' 

Bond Discount and Expense 100,000 

To Unissued First Mortgage Bonds. . . $1,000,000 

For entire issue of first mortgage 5% 
bonds sold to bankers at 90. 

Bond Discount and Expense $5,ooo 

To Cash $5,000 

For bond issue expenses paid in cash, 



BOND DISCOUNT AND PREMIUM 269 

§ 240. Entries for Bond Premium 

Premium received on the sale of bonds is credited to a 
distinguishing account, as "Premium on Bonds," "Bond 
Premium," or "Premium and Discount on Bonds." As- 
suming that the issue of $1,000,000 bonds of the Lenox 
Iron Works sold at a premium of 2%, the following entry 
would be made : 

January 1, 1916 

Cash $1,020,000 

To Unissued First Mortgage Bonds. . $1,000,000 

" Premium on Bonds 20,000 

(Full explanation here.) 

§241. Nature of Bond Premium and Discount 

The entries required to bring bond premium or bond 
discount upon the books are simple. After they are brought 
upon the books, their proper treatment is a more difficult 
problem. 

The premium or discount which is either received or 
given upon the sale of the bonds may be said to represent 
a deduction from, or an addition to, the interest paid on the 
bonds. In other words, "Premium or discount on bonds is a 
deduction from, or addition to, the nominal rate of interest 
which the bond carries ; that is to say, there is a rate known 
as the true or effective rate, at which any corporation can 
place its bonds at par ; if it elects to place them at any other 
rate, the bonds will sell at a premium or discount as the case 
ma)i be; but the effective rate remains the same and this 
effective rate is the proper charge to Income account. 
Hence, the premium or discount should theoretically be 
spread over the term of the bonds, and the annual instalment 
thereof credited or charged to the Income account each 
year."* 



'Accounting Practice and Procedure" by A. Lowes Dickinson, page 134. 



270 



CORPORATE BOND ISSUES 



§ 242. Treatment of Bond Premium and Discount 

As already stated, bond premium or discount is from its 
very nature a deduction from, or an addition to, the cost of 
the funds raised by the issue. It therefore really decreases 
or increases the amount of nominal interest paid during the 
life of the bonds. 

In order that each accounting period may show accu- 
rately the true cost of carrying the issue, the premium or 
discount must be written off over the life of the bonds and 
credited or charged periodically to the interest account and 
through this to Profit and Loss. 

Some organizations with a large surplus make a practice 
of writing off the Bond Discount and Expense account im- 
mediately, but this does not show the true cost of carrying 
the issue and is therefore misleading. Other organizations 
write off the discount in several instalments, but this is not 
accurate and is as objectionable as the practice of charging 
it off immediately. 

Bond premium is, much more frequently than discount, 
thrown immediately into the profit and loss or surplus 
accounts. This practice is, of course, just as misleading as 
the same method of handling a discount would be, for it will 
result in an erroneous statement of the operating costs. 

§ 243. Effective Rate Method 

The best modern practice of handling either bond prem- 
ium or discount is that known as the effective rate method, 
this effective rate being figured on the amount actually 
received for the bond, and not on its par. Under this 
method the effective rate which the issue bears is charged 
against Income as the Accrued Interest account is set up. 
In the case of discount, the effective rate is debited to the 
Interest account and the nominal rate credited to Accrued 
Interest, while the difference between the nominal and 



BOND DISCOUNT AND PREMIUM 



271 



effective rates is credited to Bond Discount and Expense. 
In the case of premium, the difference between the effective 
and nominal rates is debited to the Premium account. 

To illustrate the handling of premium or discount 
accounts on the books under the effective rate method, let 
us assume that the $1,000,000 issue of the Lenox Iron 
Works which sold at 90 flat, and the expenses of which were 
$5,000, runs for twenty years and bears interest at the rate 
of 5% per annum, payable annually. The total of the Dis- 
count and Expense account shows $105,000 that must be 
written off over the life of the bonds. Instead of the nomi- 
nal rate of 5%, or $50,000, which the issue carries, the 
true or effective rate would be 6.139% or $55,250. At the 
end of the first year, if monthly entries are not made, the 
entries recording- this would be : 



L a 



Interest on Bonds $50,000 

To Accrued Interest $50,000 

Interest accrued on the issue of $1,000,000 
first mortgage 5% bonds. 

Interest on Bonds $5,250 

To Bond Discount and Expense $5,250 

Difference between the nominal and true effec- 
tive rates on the $1,000,000 bond issue. 

Accrued Interest on Bonds $50,000 

To Cash $50,000 

Payment on accrued interest on $1,000,000 
bond issue. 

The interest is eventually closed into Profit and Loss by 
the following entry : 

Profit and Loss $55,250 

To Interest on Bonds $55,250 

Transfer of the effective interest on $1,000,000 
bond issue to Profit and Loss. 



272 CORPORATE BOND ISSUES 

The entries for bond premium would, of course, be of 
the same general nature, the effective rate, however, being 
less than the nominal or accrued interest charged. 

Where the bonds are to be redeemed at maturity at par, 
the problem of writing off the interest or discount is, as has 
just been shown, comparatively simple; but where they are 
to be redeemed at prices other than par, and at varying dates 
of maturity, the problem is much more complicated. The 
whole matter is summed up admirably in the quotation given 
below.* 

§ 244. Varying Conditions Affecting Annual Charge 

"In accounting for the charge to income where the ef- 
fective interest method is adopted, these cases must be 
considered : 

"(a) Bonds issued at a discount and redeemable at par. 
When the bonds are first issued the full par value would be 
credited to the liability account, while the difference between 
this full value and the cash received would be charged to a 
discount on bonds account. The full effective rate of inter- 
est would be charged to Income account, while so much of 
it as represents the nominal interest would be credited to 
Interest Accrued, and the balance to Bond Discount, thus 
gradually reducing this account over the life of the bonds. 

"(b) Bonds issued at a premium and redeemable at par. 
The conditions are exactly the reverse of case (a). Dis- 
count on Bonds account will become Premium on Bonds 
account with a credit balance; the effective interest charge 
will be less than the actual, leaving a charge to Bond Pre- 
mium account in reduction of the balance on that account. 

"(c) Bonds issued at par, redeemable at a premium. 
This case is in substance identical with (a), but in practice 



*By permission, from "Accounting Practice and Procedure" by A. Lowes Diet 

son, pages 135,-141. 



BOND DISCOUNT AND PREMIUM 



273 



the treatment is different, as there is neither discount nor 
premium at the date of issue. The charge to Income ac- 
count will exceed the interest accrued, and the difference 
will be credited to Bond Premium account and accumulated 
there until final redemption, all premiums paid on redeemed 
bonds being" charged to this account. 

"(d) Bonds issued at a discount and redeemable at a 
premium. This combines cases (a) and (c). The excess 
of the effective rate will be credited to Premium and Dis- 
count account, and will gradually convert the debit balance 
on that account into a credit sufficient to equal the amount 
of all premiums payable on final redemption. 

"In practice it is often found that bonds are purchased 
in the market at prices varying from, and generally less 
than, the specified redemption prices, and then transferred 
to the trustees of the sinking fund at the specified prices, 
and a saving thus effected which must be taken into account 
when determining the annual charge to income. Or, again, 
the redemption dates may be anticipated for a whole or part 
of the issue, and further disturbing factors thus introduced. 

"The saving on the purchase of bonds in the market at 
prices below those fixed for redemption, may be dealt with 
in one or the other of the following methods : 

1. Credit the amount to Income account each year, 

thus finally disposing of it. 

2. Credit the amount to Discount (or Premium) on 

Bonds account, thus eventually producing a sur- 
plus on this account, which would ultimately be 
transferred to Income account. 

"Neither of these methods is theoretically accurate; but 
in view of the impossibility of determining what the market 
price will be in the future, theoretical accuracy is impossible. 

"The treatment in the case of anticipation of redemption 



2^4 CORPORATE BOND ISSUES 

dates is a more difficult matter, for, if carried out on at all 
a large scale and not accompanied by an equitable reduction 
on the redemption price, the effective interest rate will be 
materially increased. The only sound method would appear 
to be to recalcul?te the effective rate on the basis of the bonds 
still outstanding and the new redemption terms. If this is 
not done, there may be a considerable shortage to make up 
at the date of final redemption. This fact is frequently over- 
looked, although it should be recognized as an important 
factor, particularly in any refunding or redemption plan. 

§ 245. Methods of Determining Charge to Income 

"There are various methods in use for determining the 
proper interest charge to be made to Income account under 
the various conditions that arise. 

"The first and most correct method, which may be called 
the effective interest method, consists in charging to Income 
account the effective interest rate calculated from the known 
conditions of issue upon the whole amount outstanding 
during the year, with an addition or deduction of an amount 
equal to the excess or deficit of the amount paid for redemp- 
tion during the year as compared with the fixed amount 
provided. For instance, if the conditions of the issue pro- 
vided that $100,000 of bonds be retired during the year at 
105, and as a matter of fact they are purchased at 95, the 
true interest on the bonds bearing interest during the year 
would be reduced by $10,000, representing the saving on 
bonds retired during the year as compared with the price 
therefor assumed in determining the effective rate. The 
tendency of this method would probably be to increase 
gradually the annual charge to Income for interest and 
sinking fund until the limit price of redemption was reached ; 
for, as the amount of the bonds outstanding diminished, the 
market price might be expected to rise. 



BOND DISCOUNT AND PREMIUM 



275 



"The second and more common method, which may be 
called the equal instalment method, is to ignore altogether 
the effective interest rate ; to charge to Income account each 
year the interest actually paid, together with a proportionate 
part, according to the whole term of issue, of the discount 
on issue or premium on redemption ; Income account being 
also credited with any savings made by purchase of bonds in 
the market. 

"A third method, which may be called the bonds out- 
standing method, and which may be safely adopted where, 
by reason of complication in the terms of issue and redemp- 
tion, it is difficult or impracticable to determine the true 
interest rate, is to distribute the discount or premium over 
the period in the proportion that the bonds outstanding for 
each year bear to the sum of the bonds outstanding for 
all years of the currency of the loan. Any saving made by 
the purchase of bonds in the market is credited to Income 
account. 

"When a large accumulated surplus is available, the 
practice is frequently adopted of charging the whole dis- 
count on issue to Profit and Loss account, taking up any 
profit or loss on subsequent redemption at a discount or 
premium to the credit of Profit and Loss account as it arises, 
and leaving the nominal interest of the bonds actually out- 
standing each year as the only charge to Income account. A 
great objection to this practice is that thereby the true rate 
of interest paid on loans during their currency is entirely 
lost sight of; current fixed charges against earnings are 
understated; and the portion representing the discount is 
charged against surplus arising out of previous operations, 
instead of being charged against income from current 
operations which should meet it. Any savings on bonds 
which are purchased in the market are a credit to Income 
account. 



276 CORPORATE BOND ISSUES 

§ 246. Operation of the Various Methods of Determining 
Annual Charge to Income 

"In order to show the effect of these various methods, 
it may be well to consider a specific case as follows : 

"An issue of $1,000,000 of bonds is made at 90, carrying 
interest at 5%, and redeemable at the rate of $50,000 each 
half year, at 100 for the first five years, and thereafter at 
105. Calculations made on these premises show that the 
effective rate of interest is approximately 8 3/16%. Bonds 
are redeemed each as specified, but they are purchased in 
the market at the following prices, viz. : 

1st year 92 

2nd year 93 

3 r d year 95 

4th year 97 

'5th year 98 

6th year 100 

7th year . 102 

8th year 104 

9th and 10th drawn at 105 

"The tables that follow give all the essential figures. 

"In the table on page 277, the last four columns show 
the charges to Income account on the basis (5) of the effec- 
tive interest method; (6) of the equal instalment method; 
(7) of the bonds outstanding method; and (8) of charging 
all discount and premium to surplus ; in each case crediting 
to Income account the surplus arising from purchasing 
bonds at less than the fixed redemption price. 

"If the latter be credited direct to surplus, or carried in 
the Bond Discount account until all discount has been writ- 
ten off by the operation of these credits and the balance of 
the effective rate, then, at the end of the nth half year in 
the first case and at the end of the 15th half year in the 



BOND DISCOUNT AND PREMIUM 



277 



Charge to Income 
when Discount 
charged to Profit 
and Loss Ac- 
count 



Charge to Income 
when Discount 
written off on 
Bonds outstand- 
ing method 



Charge to Income 
on equal annual 
Instalment 
method 



Charge to Income 
on effective in- 
terest method 



Surplus on pur- 
chase at less than 
r edemption 
price 



Discount provided 
for (2) — (1) 



Effective Interest 
charge at 8 3/16% 
p. a. (b) 



Payments for In- 
terest at 5% p. 
a. (a) 



Period y 2 Year 



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2y8 



CORPORATE BOND ISSUES 



second, the discount will be extinguished and thereafter 
only the actual interest paid, less surplus on market pur- 
chases, will be charged to Income. 

§ 247. Determining Annual Charge When Proportionate 
Discount Is Written Off 

"The charge to Income account on the bonds outstanding 
method is arrived at as shown in the following table. It 
is so close to that given by the effective interest method that 
for all practical purposes it may safely be adopted. 



u 
u 

!* 



'u 
<u 


to 

.5 

'•T3 

1 

09 

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8** 

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$1,000,000 


100/1050 


$11,905 


$25,000 


$4,000 


$32,905 


2 


950,000 


95/1050 


11,310 


23,750 


4,000 


3I,060 


3 


900,000 


90/1050 


10,714 


22,500 


3,5oo 


29,714 


4 


850,000 


85/1050 


10,119 


2I,250 


3,5oo 


27,869 


5 


800,000 


80/1050 


9,524 


20,000 


2,500 


27,024 


6 


750,000 


75/1050 


8,929 


18,750 


2,500 


25,179 


7 


700,000 


70/1050 


8,333 


17,500 


1,500 


24,333 


8 


650,000 


65/1050 


7,73^> 


l6,250 


1,500 


22,488 


9 


600,000 


60/1050 


7,143 


15,000 


1,000 


21,143 


10 


550,000 


55/1050 


6,548 


13,750 


1,000 


19,298 


11 


500,000 


50/1050 


v ' 5,952 


12,500 


2,500 


15,952 


12 


450,000 


45/1050 


5,357 


11,250 


2,500 


H,I07 


13 


400,000 


40/1050 


4,762 


10,000 


1,500 


13,262 


14 


350,000 


35/1050 


4,167 


8,750 


1,500 


11,417 


15 


300,000 


30/1050 


3,571 


7,500 


500 


IO,57I 


16 


250,000 


25/1050 


2,976 


6,250 


500 


8,726 


17 


200,000 


20/1050 


2,381 


5,000 


... 


7,38l 


18 


150,000 


15/1050 


1,786 


3,750 




5,536 


19 


100,000 


10/1050 


1,190 


2,500 




3,690 


20 


50,000 


5/1050 


595 


1,250 


... 


1,845 




$10,500,000 


$125,000 


$262,500 


$34,000 


$353,500 



CHAPTER XX 

SINKING FUNDS 

§ 248. Function of the Sinking Fund 

A fund is always an asset. A sinking fund is a reserva- 
tion of assets, usually cash, set aside periodically for a 
specified purpose and placed in the hands of a trustee for 
safe-keeping until the date arrives for its expenditure in 
accordance with the purpose for which it was created. 

The sinking fund is resorted to as a convenient method 
of accumulating funds for various purposes, as for the 
redemption of bonds, the cancellation of a lease, the replace- 
ment of some fixed asset, as a plant or a costly machine, or 
the replacement of an investment in some wasting property, 
as oil wells, quarries, or mines. When the sinking fund is 
used in connection with the depreciation of mines, it is 
frequently spoken of as an "extinguishment fund." 

The most common use of the sinking fund in corporation 
affairs is for the redemption of bond issues, and for this 
reason the present discussion of sinking funds is confined 
to the fund for the redemption of bonds. 

There are some objections to the sinking fund as a 
method of accumulating funds, since it withdraws and 
holds at a nominal rate of interest current cash that could 
be used more profitably in the business. The fund at the 
best can hardly earn more than 4% or 5%, while invested 
in the business it should be made to earn 10% or more. 

The sinking fund must, of course, be made to earn as 
much as possible during the period of its reservation, and 
to that end it is usually deposited in a savings bank, at 

279 



2 8o CORPORATE BOND ISSUES 

interest, until the opportunity arises for investment in high- 
grade interest-bearing securities. The manner in which the 
sinking fund shall be invested is usually set forth in the 
trust deed or other instrument through which the sinking 
fund is brought into existence. 

§ 249. Creation of the Sinking Fund 

The manner of creating the sinking fund is usually set 
forth in the trust deed. Some of the various methods fol- 
lowed in the maintenance of sinking funds are as follows : 

Cash instalments, paid to the trustee half-yearly or 
yearly, are either deposited in savings banks or invested in 
approved gilt-edged securities. Sometimes the trustee is 
permitted and may even be compelled to invest in bonds of 
the issuing company, usually with definite instructions as to 
whether the purchased bonds shall be cancelled or kept 
alive as a sinking fund investment. Frequently it is pro- 
vided that the first payment to the sinking fund need not 
be made for two or more years after the issuance of the 
bonds, so as to give the company time to "get its breath" 
before beginning the process of redemption. 

The sinking fund instalments may be composed of 
definite amounts, as $20,000, $50,000, $100,000, or more, 
as the case may be, proportioned to the amount and time 
of the bond issue ; or they may vary from year to year, 
being either a given per cent of the outstanding bonds, or 
a given per cent of the gross business of the company, or a 
given proportion of the gross profit or net profit. 

In the case of a mine or quarry the instalments may 
either be definite amounts, as stated above, or else based 
upon the output of ore — as 12 cents per ton for every ton 
of ore mined, 10 cents for every square yard of stone 
quarried, etc. 

In the case of timber companies the instalments may be 



SINKING FUNDS 2 8l 

based upon the quantity of timber cut, being so much on 
every thousand feet of timber. With real estate develop- 
ment companies the- sinking fund payments are frequently 
governed by the number of lots or divisions plotted or the 
progress attained in improving the property. 

In this connection it may be of interest to review 
some of the sinking fund methods used by well-known 
corporations. 

The first mortgage 5% sinking fund 30-year gold bonds 
of the Baldwin Locomotive Works contain the following 
provisions respecting the sinking fund : 

"Beginning with the year 19 15 there will be an annual 
sinking fund payment of 2% per annum on the maximum 
amount of bonds which shall at any time be issued. Bonds 
for the sinking fund are to be purchased at a price not 
exceeding 107 1/2% and accrued interest, or drawn by lot at 
that price." 

A subsidiary of the Erie Railroad Company issued $6,- 
000,000 of first mortgage 6% sinking fund gold bonds, and 
the mortgage indenture requires a cumulative sinking fund 
sufficient to retire at least $2,377,000' bonds before maturity. 
The sinking fund clause calls for a deposit of $20,000 April 
1, 19 16, and annually thereafter, this fund being applicable 
to the purchase of the outstanding bonds upon tenders by 
bondholders at not exceeding no up to and including 
the year 1920, and at 115 thereafter prior to maturity. If 
not obtainable at these prices, bonds may be called by lot at 
corresponding prices upon the succeeding first day of July. 
The redemption price stated is noticeably high, especially 
since it is the usual practice of railroad companies to issue 
refunding bonds. 

Article three of the trust deed of the United States Steel 
Corporation is specific as to the sinking fund provisions 
and the manner of investing the funds by the trustee. 



282 CORPORATE BOND ISSUES 

Annual deposits to the fund were begun the year following 
the bond issue. Some of the provisions are as follows : 

"On or before the ist day of April, 1904, and annually 
on or before each first day of April thereafter until all the 
bonds hereby secured shall have been acquired for the sink- 
ing fund under this article, or shall have been redeemed as 
herein provided, or shall have been paid or satisfied, the 
Steel Company will pay to Messrs. J. P. Morgan & Co., 
hereby appointed Sinking Fund Trustees, or to their suc- 
cessors in trust, the sum of $1,010,000. All sums so re- 
ceived by the Sinking Fund Trustees, together with the 
accretions thereto as hereinafter provided, shall constitute a 
sinking fund for the redemption of the bonds hereby 
secured, and shall be held, used, and applied as hereinafter 
provided. 

"All bonds hereby secured that shall be purchased by 
the Sinking Fund Trustees or be redeemed, as hereinafter 
provided, by use of moneys in the sinking fund, shall be 
deemed to remain alive for the purpose of such sinking 
fund ; and semiannually the Steel Company shall pay to the 
Sinking Fund Trustees the interest on all such bonds of the 
Steel Company held by the Sinking Fund Trustees for the 
purpose of such sinking fund. 

"All moneys received by the Sinking Fund Trustees 
under this article, including moneys received by the Sinking 
Fund Trustees from the Steel Company in respect of interest 
on bonds hereby secured and held for the purposes of the 
sinking fund, and moneys received for principal or proceeds 
of, or interest upon, other bonds or obligations held in the 
sinking fund, and also all interest that may be allowed by 
the Sinking Fund Trustees upon sinking fund moneys 
during the deposit thereof with the Sinking Fund Trustees, 
shall be held by the Sinking Fund Trustee as bankers in 
general account " 



SINKING FUNDS 



283 



§ 250. Sinking Fund Created Out of Profits 

The deed of trust sometimes requires that a sinking fund 
"shall be created out of profits." Even where this is done 
by means of a reserve fund, there is also usually a reserva- 
tion of actual cash. In this case an amount equal to the 
cash reservation is set aside out of profits by means of a 
debit to Profit and Loss and a credit to Sinking Fund 
Reserve, or to Bond Extension Reserve, or to Debt 
Extinguishment Reserve. 

In the present day the sinking fund reserve is not so 
often required as part of the scheme of bond redemption. 
Bonds are not necessarily paid out of profits, and there is 
no more need of reserving profits for their redemption 
than for the reservation of profits for the payment of 
promissory notes or ordinary bank loans. The provision, 
however, has some merit as it has a tendency to prevent 
directors from paying dividends with cash that should be 
placed in the sinking fund or be kept in the business for 
working purposes. (See § 262.) 

When a special sinking fund reserve is created, it has 
no specific function to perform beyond the mere safeguard- 
ing of the profits Yand when the bonds are redeemed the 
account must be closed into Surplus) This results in a 
sudden and substantial increase of available profits, and 
the directors may then properlyr'cut a melony if they see 
fit, declaring these excess profits in dividends. This would 
not impair the capital stock. 



§ 251. Safeguarding the Sinking Fund 

The sinking fund instalments are usually placed in the 
hands of a trustee for safe-keeping, this trustee being some 
reliable trust company, a firm of bankers, or a committee 
of individuals. Sometimes the corporation itself takes 
charge of the sinking fund, and in this case the fund is 



284 



CORPORATE BOND ISSUES 



placed in the care of either the board of directors or a 
committee of directors. 

The sinking fund cash may be deposited by the trustee 
in one or more reliable savings banks to draw the regular 
rate of interest, or may be all or partly used for the purchase 
of high-grade interest-bearing securities such as are legal 
for investment trust funds. Or, as stated, it may be used, 
in whole or in part, for the purchase of the company's out- 
standing bonds either at the market price or at some given 
price, usually above par. Bonds redeemed are either turned 
over to the company and by it cancelled, or are held "alive" 
in the sinking fund as a source of income. (See § 260.) 

Sinking fund cash is occasionally invested in other ways, 
as in real estate mortgages, in building and loan associa- 
tions, or even in an extension of the company's own 
properties; any such variations of the usual investments 
depending upon the provisions of the deed of trust. 

§ 252. Adequacy of the Sinking Fund 

It will readily be seen that the amount of the sinking 
fund deposits must be calculated in advance, so that when 
the bonds mature there will be sufficient cash available for 
their redemption. In case of shortage for any cause, 
additional funds must be raised to pay off the maturing 
bonds. On the other hand, if the required amount has been 
accumulated prior to the date of maturity, further sinking 
fund payments may be discontinued unless otherwise pro- 
vided in the agreement under which the sinking fund is 
created. 

Where definite amounts are set aside yearly, such 
amounts are generally governed by the aggregate debt out- 
standing, and by the estimated rate of interest the fund is 
likely to earn. For example, if it is desired to meet a debt 
of $800,000 in twenty years, an annual deposit of $26,866 



SINKING FUNDS 285 

to the sinking fund would, at 4% interest compounded 
annually, provide an adequate cash supply for the purpose, 
but this presupposes that the trustee will be able to keep 
the funds continuously invested at this rate. This may 
not always be possible, and, on the other hand, it is probable 
that the trustee may be able to secure a better interest rate, 
particularly if he is permitted to invest in the company's 
own bonds. It will be seen, then, that the exact earning 
capacity of trust funds cannot be accurately foretold, and 
that officials should be governed accordingly in determining 
the sinking fund instalments. 

§ 253. Annuity Method for Sinking Funds 

There is a growing tendency to apply scientific annuity 
calculations to bonds and sinking funds, as well as to 
amortizing diminishing balances. Under this plan it is 
assumed that all instalments and interest accumulations to 
the sinking fund will earn compound interest from year to 
year, at a given rate, say 3 or 4%. The amount that shall 
be in the fund at any time is carefully estimated when the 
bonds are issued, so that at the date of maturity there may 
be in the hands of the trustee enough to pay the debt. If at 
any time this estimate falls short, because of a lower earn- 
ing rate or for any other reason, an adjustment must be 
made by increasing the annuity or by making a special 
deposit equal to the existing deficit. When estimating the 
rate of yield, care must be taken not to use a higher rate 
than the regular savings bank interest. If, however, the 
sinking fund trustee invests in the company's own bonds at 
any time, the income will be materially increased. 

§ 254. Calculating Fund Annuities 

Annuity calculations may be largely avoided by the use 

*For a detailed discussion of the subject see "The Accountancy of Investments," 
by Charles E. Sprague 



286 CORPORATE BOND ISSUES 

of annuity tables, but, notwithstanding this, it is most 
desirable to have at least a working knowledge of their 
principles. 

An annuity is a definite sum of money paid at regular 
intervals. For example, an investment of $i at 6% per 
annum, compounded annually, amounts in five years to 
approximately $1.33822558. In other words, if the original 
$1 were left on deposit in some one bank for five years, and 
the annual interest of 6 cents withdrawn each year and 
deposited in another bank at 6% compounded annually, at 
the end of five years there would be the original $1 in the 
first bank and $.33822558 in the second bank. This latter 
amount is the result of an annual deposit of 6 cents for a 
period of five years with the interest accumulations; there- 
fore $.33822558 is the value at maturity of an annuity of 
6 cents for five years at 6%. From this, the final value of 
any annuity at 6% for five years may readily be found, by 
dividing $.33822558 by 6 to find the value of an annuity of 
1 cent and multiplying this by the number of cents in the 
actual annuity. Thus, an annuity of $1 for five years has 

a final value of ~ X 100, which equals $5.637093. 

This plan requires the use of only the ordinary compound 
interest tables. The process may be stated as follows : 

To find the final value of an annuity for a given time at 
a given rate, first multiply the compound interest on $1 for 
the given time at the given rate by 100 and divide by the 
given rate. This gives the final value of an annuity of $1. 
Then the final value of the given annuity is found by multi- 
plying the final value of an annuity of $1 by the number of 
dollars in the given annuity. 

The following example will illustrate more fully the 
application of the compound interest method to sinking 
fund accumulations : 



SINKING FUNDS 287 

The People's Gas Company on January 1, 19 16, issued 
$2,000,000 of first mortgage 5% sinking fund gold bonds, 
payable in twenty-five years, interest payable semiannually. 
In order to meet the bonds at maturity, such annual sum 
in cash is to be deposited with a designated trust company 
as will accumulate, at 4% compound interest during the 
currency of the obligations, to an amount sufficient to redeem 
the bonds. 

In finding the amount of the yearly annuity payment, 
we need not consider discount if the bonds should be sold 
at less than par, nor the expenses of the issue, nor the pay- 
ment of interest coupons. Bond discount and expense are 
treated as expense incident to the issue, and as the coupons 
mature they are paid out of current funds, and the amount 
charged to Bond Interest, which in turn is closed into the 
Profit and Loss account. We have therefore to provide 
only for the payment of the principal sum of $2,000,000 
at the end of the twenty-fifth year. 

We find — usually by consulting an annuity table — that 
$1 invested annually at 4% compound interest will amount 
to $41.64590829 at the end of twenty-five years. If $1 
invested annually for twenty-five years at 4% compound 
interest will amount to $41.64590829, then by dividing this 
value into $2,000,000 — the amount to be accumulated — 
the quotient is the number of dollars which must be invested 
each year to amount in twenty-five years, at 4% compound 
interest, to the desired sum. Carrying out this division we 
find the required annuity payment to be $48,023.93. 

In ascertaining the amount of a sinking fund annuity, 
the determining factors are the principal to be accumulated, 
the time to run, and the rate of interest obtainable. 

§ 255. Sinking Fund to Retire Preferred Stock 

The sinking fund plan is occasionally adopted for the 



2 88 CORPORATE BOND ISSUES 

retirement of preferred stock. The following quotation 
has reference to a new issue of preferred stock of a well- 
known manufacturing corporation : 

"A sinking fund has been created out of earnings for 
the retirement of the preferred stock at not exceeding $115 
per share and accrued dividend, by setting aside $200,000 
from the net profits for the fiscal year ended July 31, 19 14, 
and annually thereafter an amount equal to 2% of the par 
value of all preferred stock at any time theretofore issued; 
and if in any fiscal year dividends are paid on the com- 
pany stock in excess of 7%, the next succeeding preferred 
stock sinking fund instalment is to be increased by an 
amount equal to such excess." 

The entries for such a sinking fund would be the same 
as in the case of a sinking fund for the redemption of bonds. 



CHAPTER XXI 

SINKING FUNDS (Continued) 

§ 256. Sinking Fund Account 

The sinking fund, as already stated, is made up of 
periodical cash payments to the trustee and the interest 
accumulations ; therefore, definite book entries are required 
at regular periods to record properly the instalments and 
interest accretions. An account must be opened for the 
sinking fund, or for the sinking fund trustee, to which shall 
be debited the various payments and accumulations, with 
corresponding credits to cash and to sinking fund income. 
If the trust agreement requires that the sinking fund shall 
be created out of profits, then an annual reserve equivalent 
to the sinking fund instalment must be set aside. The fund 
itself, however, is composed of assets and recorded on the 
debit side of the ledger, while the Sinking Fund Reserve 
account is a credit and shown on the credit side. Careful 
book records must, of course, be kept of all details respecting 
the sinking fund and any reserves required in connection 
therewith. 

In the case of small companies the sinking fund pro- 
cedure is often much less formal than in the case of larger 
companies, and it is not unusual for the whole of the funds 
to remain in the hands of the directors themselves; but in 
any case the accounts should be so kept as to show all 
information that may be required by any of the interested 
parties respecting the bonds and the sinking funds. 

The regulations of the Interstate Commerce Commission 
provide for sinking fund accounts of railroads, and quota- 

289 



2Q0 CORPORATE BOND ISSUES 

tions from these may be of interest to other than railroad 
accountants. The first quotation prescribes what shall be 
included in the sinking fund. 

"This account shall include the amount of cash, the 
ledger value of live securities of other companies, and other 
assets which are held by the trustees of sinking and other 
funds for the purpose of redeeming outstanding obligations, 
including such assets so held in the hands of the accounting 
company's treasurer when the assets are segregated under 
a distinct fund; also amounts deposited with such trustees 
on account of mortgaged property sold, the proceeds of 
which are to be held for the redemption of securities, and 
the par value of live securities issued or assumed by the 
accounting company and held in such funds. A separate 
account shall be kept for each fund. The title of each such 
account shall designate the obligation in support of which 
the fund is created." 

Railway companies not infrequently create sinking fund 
reserves also, which, of course, must be set aside out of 
profits. The Commission's ruling on the subject of the 
Sinking Fund Reserve account is as follows : 

'This account shall include the net balances in accounts 
to which are credited definite appropriations of income and 
surplus, whether held in general funds or specifically set 
aside in the hands of a trustee for sinking and redemption 
funds. It shall also include income accretions to such funds 
retained therein." 

Income from sinking fund assets is required to be cared 
for in the manner specified by the Commission, under "In- 
come from Sinking and Other Reserve Funds." To this 
account are to be credited income accrued on cash securities 
and other assets belonging to sinking and other reserve 
funds, such income being included under non-operating 
income in the company's regular income statement. In 



SINKING FUNDS 291 

case a Sinking Fund Reserve account is maintained, a 
definite amount must be set aside out of income by a debit 
to the account "Surplus Applied to Sinking and Other 
Reserve Funds" and a credit to "Sinking Fund Reserves." 
Such amounts are generally set up monthly, but at the end 
of each year "Surplus Applied to Sinking and Other 
Reserve Funds" account must necessarily be closed out. 

§ 257. Entries for Sinking Fund Instalments 

The sinking fund instalments are paid in cash to the 
trustee, either half-yearly or yearly, or even at greater inter- 
vals, according to the requirements of the deed of trust. 
For illustration, we will assume that the 5% bond issue of 
the Lenox Iron Works for $1,000,000 required an annual 
deposit of $50,000 to the sinking fund beginning December 
31, 19 16. This payment will be recorded: 

December 31, 1916 

Sinking Fund Trustee $50,000 

To Cash $50,000 

First deposit to the sinking fund for redemp- 
tion of $1,000,000 first mortgage 5% bonds 
due January 1, 1936, as required by trust 
agreement. 

If there were several bond issues requiring sinking 
funds, each fund would have a separate account. They 
should be designated according to the kind and tenor of 
the bonds, as "Sinking Fund of First Mortgage 5% Bonds 
of 1925," "Sinking Fund of $4,000,000 First Mortgage 
5% Sinking Fund Gold Bonds of 1940," as the case may 
require. Sometimes the name of the trustee is included in 
the caption, as "Security Trust Company, Trustee of Sink- 
ing Fund," or "Trustee of Sinking Fund of $1,000,000 5% 
Bonds," etc. The title should be sufficiently descriptive to 
indicate clearly the fund and its purpose. 



292 CORPORATE BOND ISSUES 

§ 258. Entries for Sinking Fund Interest 

The duty of the trustee being to safeguard properly the 
sinking fund and to keep it earning, we will assume, in the 
present instance, that he deposited the funds in the savings 
bank to draw 4%. At the end of the first year he must 
make his report to the company, giving the status of the 
fund and stating the accumulated income thereon, which in 
this case would be 4% of $50,000, or $2,000. Upon 
receipt of this report the following entry should be made 
on the company's books : 

December 31, 1917 

Sinking Fund Trustee $2,000 

To Sinking Fund Income $2,000 

To record income from sinking fund deposit of 
$25,000 for one year at 4%, as per report of 
the trustee. 

Sinking fund income should be credited to some account 
that will clearly indicate the sources from which it came, 
as shown in the above entry. It is manifestly a part of 
the company's regular income and must sooner or later 
appear in the Profit and Loss account. The entry for sink- 
ing fund income would be : 

Sinking Fund Income $2,000 

To Profit and Loss $2,000 

To close sinking fund income, being the total 
earning for the year as reported by the trustee. 

Under the terms of trust under which the sinking fund 
was established no mention has been made of the disposition 
of the income from the fund, but it might be handled in one 
of three ways, i.e., turned over to the company, retained by 
the trustee as an addition to the sinking fund, or be applied 
to lessening the next sinking fund instalment (§ 253). For 
the present illustration we have adopted the second method 






SINKING FUNDS 



293 



as the entries are more involved. Under the first method 
the trustee would turn over to the company cash to the 
amount of the interest or income and the company would 
debit cash and credit sinking - fund trustee . 

To illustrate monthly entries showing" the accrual of the 
sinking" fund interest, the following" have been constructed 
upon the facts of the preceding material : 

Accrued Sinking Fund Income %i66.6y 

To Sinking Fund Income $\66.6j 

Accrued income @ 4% on $50,000 of cash on 
deposit in savings bank for one month, 1/12 
of $2,000. 

This entry would be made at the end of each month, 
and at the end of the year the following entry would be 
made : 

Sinking Fund Trustee $2,000 

To Sinking Fund Income $2,000 

Cash collected by sinking fund trustee during 
the year, being 4% on $50,000 on deposit at the 
savings bank. 

§ 259. Entries for Sinking Fund Investments 

Instead of depositing the sinking fund cash in the sav- 
ings bank, the trustee may find it more profitable to invest 
it, or a portion of it, in gilt-edged bonds paying a higher 
rate of'interest. In some cases he is required to invest the 
funds in bonds of other companies, or of the issuing com- 
pany itself. We will assume, therefore, that on January 1, 
19 18, the trustee purchases $100,000 of first mortgage 5% 
bonds of the United States Steel Corporation at par, interest 
due January 1 and July 1. No entry need be made on the 
company's books for this transaction, since the cash used 
has already been charged to the sinking fund trustee; in 
other words, he is simply replacing cash assets with an 



294 



CORPORATE BOND ISSUES 



equivalent amount of securities. If it is desired, however, 
as is frequently the case, to show the sinking fund invest- 
ments separately from the sinking fund cash, even though 
they are in the hands of the trustee, the following would be 
the procedure : 

January i, 1918 

Sinking Fund Investments $100,000 

To Sinking Fund Trustee $100,000 

For investment by the trustee in 5% bonds 
of the United States Steel Corporation at 
par, as per his report of this day. 

An investment in the company's own bonds would be 
handled in practically the same way. 

The sinking fund now contains bonds which will pay 
interest twice during the year, $2,500 in cash each six 
months. If the bonds had been purchased at a premium or 
discount, another element would have been introduced — 
that of properly recording such difference.* At the end of 
the first half-year an entry for income would be required as 
follows : 

July 1, 1918 

Sinking Fund Trustee $2,500 

To Sinking Fund Income $2,500 

For coupons collected on $100,000 5% bonds of 
United States Steel Corporation held in the 
sinking fund, as per report of the trustee. 
(Full details necessary.) 

If desired this could be handled by monthly entries 
accruing the income. 

At the end of the year, interest will have accumulated 
on both interest and bonds, requiring the following entry 
on the company's books : 



*For detailed discussion of this subject, see "The Accounting of Investment' 
by Charles E. Sprague. 



I 



SINKING FUNDS 



295 



December 31, 1918 

Sinking Fund Trustee $2,630 

To Sinking Fund Income $2,630 

For interest accumulations to the fund, as per 
report of the trustee, as follows: 
Interest at 4% on $2,000 in bank, one 

year $80 

Interest at 5% on $100,000 bonds, one 

half-year 2,500 

Interest at 4% on $2,500 in bank, one 
half-year 50 

Total $2,630 

Another instalment of $50,000 is due the sinking fund 
at this time, and is entered as before. 

§ 260. Entries for Investment in Issuing Company's Bonds 

The trust deed in many cases provides for the redemp- 
tion of the bonds by the sinking fund trustee, either at the 
market price or at a fixed price, and he is compelled to carry 
out such provisions. 

In that event he either carries the bonds in the sinking 
fund as a source of income, or turns them over to the com- 
pany for cancellation. To exemplify the entries for the 
purchase of such bonds for sinking fund investment, we will 
carry the illustration of the Lenox Iron Works a step 
further, by a purchase on January 1, 19 19, of $50,000 of 
the company's own bonds at 102 y 2 . 

The entry to be made for this transaction must be 
governed by the circumstances, not because the bonds are 
those of the issuing company, but because of the disposition 
to be made of the $1,250 premium paid thereon. Three 
courses are open : 

1. No entry need be made on the company's books at 
all, either for the purchase of the bonds or for the premium 
paid. 



2 g6 CORPORATE BOND ISSUES 

2. An entry may be made at the time, debiting Sinking 
Fund Investments or some other appropriate account with 
the cost price of the bonds, and crediting Sinking Fund 
Trustee with the cost of the bonds, $51,250; the premium in 
this case being amortized over the life of the bonds. 

3. An entry as in Method 2, but for the par value of 
the bonds instead of the cost price ; in this case the premium 
must be charged either against Sinking Fund Income, 
against Profit and Loss, or to an account called "Premium 
on Sinking Fund Investments." The last named account 
should then be closed into Profit and Loss or be amortized 
gradually over the life of the bonds. 

The plan of entry to be selected will depend on circum- 
stances. There is a premium of $1,250 to be recorded in 
some way, and eventually to be disposed of ; and no matter 
how it is done, the company is the loser of this amount, 
especially since the bonds are not to be resold but held until 
maturity and redeemed at par. 

Since the bonds so purchased will draw 5%, it may be 
good policy to pay the premium and then charge it off, all 
at once, or gradually, against the income on the trustee's 
books; the trustee deducting same from the amount of 
income reported to the company. But since the Sinking 
Fund account on the company's books should represent the 
true status of the trustee's holdings, it seems advisable to 
relieve him from any further consideration of the premium 
payment. If his fund is required to be maintained at a 
definite status at all times, the company may be required to 
pay over to the trustee additional cash to meet the premium 
payment. 

If, however, the purchase of outstanding bonds at a 
premium is to continue, it would seem most desirable to 
charge off the premium annually against Profit and Loss 
account ; or if a Sinking Fund Reserve account is maintained 



SINKING FUNDS 297 

(§§ 262, 283) the premium could be charged against it. 

If the bonds are purchased in the open market at a 
discount, such discount may be credited either to Profit and 
Loss or to Surplus. 

The entry at the date of purchase under the approved 
plan (3) is as follows : 

January 1, 1919 

Sinking Fund Investments $50,000 

Premium on Sinking Fund Investments 1,250 

To Sinking Fund Trustee $51,250 

For purchase of $50,000 of the company's 5% 
bonds at i02 l / 2 by the trustee for sinking 
fund investment. 

If the sinking fund investments are not kept separately 
from the sinking fund cash, then an entry for the premium 
only would be necessary, and this premium must be disposed 
of by monthly entries, or at the end of the year by a debit 
to either Profit and Loss or Expense as follows : 

December 31, 1919 

Profit and Loss $1,250 

To Premium on Sinking Fund Investments $1,250 

To close this account for the year. 

The United States Steel Corporation charges off each 
year all premiums (upward of $800,000 or more per year) 
on bonds purchased and held by the sinking fund trustee, 
this item together with the bond interest being entered as 
a deduction from net income. Some corporations create 
reserves to take care of these premiums, as "Reserves for 
Bond Redemption Premium" or some other appropriately 
named account. 

§ 261. Entries for Bonds Cancelled Through Sinking Fund 

The entries for bonds of the issuing company purchased 

and held by the trustee for sinking fund purposes, were set 



298 



CORPORATE BOND ISSUES 



forth in § 260. When the trust mortgage requires that the 
bonds of the company so purchased shall be turned over to 
the issuing company and cancelled, a different principle is 
involved and the status of the sinking fund is necessarily 
affected. The security to bondholders, however, remains 
the same in either case; indeed, from the bondholders' 
standpoint the cancellation of the bonds is preferable, since 
his margin of security automatically increases in proportion 
as the volume of outstanding bonds decreases. The trust 
agreement may stipulate, however, that as bonds are called 
for redemption and cancelled, certain modification of the 
security held may be made. For a further explanation of 
this subject, see Chapter XXII, "Redemption of Bonds." 

Assuming that $50,000 of bonds purchased by the 
Lenox Iron Works through the sinking fund trustee on 
January 1, 19 19, were turned over to the company and 
cancelled, an entry would be required as follows : 

January 1, 1919 

First Mortgage 5% Sinking Fund Bonds $50,000 

Premium on Bonds Cancelled 1,250 

To Sinking Fund Trustee $51,250 

Purchase for cancellation of $50,000 of the 
Company's 5% bonds at 102^2 through the 
sinking fund trustee. 

If the trust mortgage provides that the sinking fund 
shall be maintained at a given amount, the company may 
be compelled to reimburse the trustee for the premium 
payment. 

It may even be a condition of the cancellation agree- 
ment that the trustee shall be reimbursed in full for the 
amount expended in repurchasing the company's bonds. 
This must, of course, be provided for in advance. If at the 
time of cancellation the entire amount is paid over to the 
trustee, an entry similar to the following would be made : 



SINKING FUNDS 



299 



January 1, 1919 

First Mortgage 5% Sinking Fund Bonds $50,000 

Premium on Bonds Cancelled 1,250 

To Cash $51,250 

(Full explanation required.) 

This brings the sinking fund again up to its former 
status, but it is patent that unless the sinking fund is to be 
maintained regardless of the amount of the outstanding 
bonds, there is no necessity for continuing to reimburse the 
trustee for such bond purchases. The premium of $1,250 
may at the proper time be closed either into Profit and Loss 
or into the "Reserve for Bond Redemption Premium" in 
case the latter account is used. 

§ 262. Entries for Sinking Fund Reserve 

We have already stated (§ 250) that the deed of trust 
frequently requires an amount equal to the sinking fund 
instalments to be set aside out of profits.* To carry out 
this provision a definite amount agreeing with the sinking 
fund payment must be reserved each period, whether yearly 
or oftener, and credited to a reserve account set up for that 
purpose. Resorting again to the example under discussion, 
we will assume that the Lenox Iron Works is required to 
set aside each year out of profits an amount equal to that 
of the sinking fund instalments, $50,000 per year. In that 
event it becomes necessary to withdraw the required amount 
out of profits by an entry similar to the following: 

December 31, 1916 

Profit and Loss $50,000 

To Sinking Fund Reserve $50,000 

To set aside profits equal to the sinking fund 
deposit for redemption of $1,000,000 first 
mortgage 5% bonds, in accordance with the 
trust agreement. 

*See §§ 282, 283 for discussion of reserve accounts and reserve funds. 



3oo 



CORPORATE BOND ISSUES 



Whether or not this reserve shall be kept in harmony 
with the Sinking Fund account depends upon the trust 
agreement. In case this is a requirement, it is obvious that 
every dollar added to the fund must also have an equivalent 
credit to the reserve account, so that the two accounts will 
show like amounts though on opposite sides. This plan is 
illustrated in the following entries. 

During 19 17 the sinking fund accumulates a profit of 
$2,000, which was credited to income and which must be 
reflected in the reserve account as well as in the sinking 
fund account. The following entry will therefore properly 
record the regular instalment of $50,000 and the income 
for one year on the preceding deposit : 

December 31, 1917 

Profit and Loss $52,000 

To Sinking Fund Reserve $52,000 

To set aside an amount equal to the annual 
deposit to the sinking fund, plus the profits 
accumulated for the year, as follows : 
Annual deposit to sinking fund. . . $50,000 
Income on previous balance reported 

by trustee 2,000 

An entry similar to the above must be made at the end 
of each year, comprising the regular instalment and all 
accrued profits for the, year. This entry presupposes, of 
course, that additions to the sinking fund have already 
been charged to the trustee and credited to income on 
December 31, 1917 (§ 258), and again July 1 and Decem- 
ber 31, 1 91 8 (§ 259). As interest accumulations are 
reported by the trustee, adjusting entries are made to the 
Sinking Fund account; but under the plan adopted it may 
not be necessary to credit the sinking fund reserve until 
the end of the year, at which time the entry will include 
both the regular $50,000 instalment and the accrued interest. 



SINKING FUNDS 



301 



If it is desired 1 , as is frequently the case, to credit earn- 
ings directly to the Sinking Fund Reserve account instead 
of to income, the following entry would be required for 
the $2,000 above reported. 

December 31, 1917 

Sinking Fund Trustee $2,000 

To Sinking Fund Reserve $2,000 

For interest accretions to the sinking fund for 
year, as per report of the sinking fund trustee. 

If the Sinking Fund account and the Sinking Fund 
Reserve account are to be kept in harmony, certain adjust- 
ments may be required from time to time, as in the purchase 
of bonds of the issuing company or others at a premium. 
Referring to the investment of $51,250 recorded in a 
previous section (§ 260), instead of charging this premium 
to a premium account it may be charged directly to the 
reserve account by an entry as follows: 

January 1, 1919 

Sinking Fund Reserve $1,250 

To Sinking Fund Trustee $1,250 

(Full explanation required here.) 

This entry if used would, of course, be incorporated in 
the entry referred to above. The amount might, if desired, 
be first charged to the premium account and in turn closed 
into the reserve account. There are many ways of making 
entries and it would be impracticable to enumerate them 
all. (See also § 283.) 

§ 263. The Sinking Fund on the Balance Sheet 

The sinking fund, consisting as it does of cash and 
securities, would naturally be placed among the assets in 
the balance sheet; but since the sinking fund assets are 
not free for use as working capital but have been handed 



302 CORPORATE BOND ISSUES 

over to the trustee practically as part payment on the 
bonded debt, there is some question as to the expediency 
of including them among the balance sheet assets. Many 
companies list sinking fund assets among the corporate 
assets, while others show them as deductions from the 
bonded debt. The plan adopted depends largely on the 
ideas of the accounting officer or of the corporation officials. 
The following methods of listing are in common use, the 
amount of the sinking fund being as of December 31, 1918: 

1. Sinking Fund in Hands oi Trustee $157,130 

2. Trustee of Sinking Fund, being amount of cash and 

securities held by the Trustee for redemption of 
$1,000,000 5% First Mortgage Bonds of 1936 157,130 

3. Sinking Fund Assets, being amount in hands of Trustee, 

as follows : 

Invested in Securities $100,000 

Cash in Savings Bank 57,130 157,130 

4. Sinking Fund Assets. (Cash and securities amounting 

to $157,130 in hands of Trustee, deducted from out- 
standing bonds, per contra.) 

Under the last plan (4) the sinking fund assets appear 
only as a memorandum among the assets, while the amount 
of the funds is deducted from the bonds themselves on the 
opposite side. 

§ 264. Entries on Books of Sinking Fund Trustee 

The records of the trustee of a sinking fund are not 
kept in any standard form. Therefore, all that is necessary 
are full and complete accounts so that the conditions of the 
trust can be readily ascertained at any time. Of course, 
the accounts of a trustee and of the company should be in 
absolute harmony on all matters pertaining to the bond issue 
and the sinking fund. 

The first official act of the trustee after the deed of trust 
is executed, is the indorsement of the bonds as they are 



SINKING FUNDS 303 

issued. A record of this is, of course, kept by the trustee, 
and this is the first entry on his books until either interest 
or a sinking fund instalment is received by him from the 
company, or interest becomes due on the bonds. 

To illustrate the entries on the books of the sinking 
fund trustee, the transactions in connection with the bond 
issue of the Lenox Iron Works (§ 257) may again be taken. 
The first payment to the sinking fund trustee was $50,000 
in cash on July 1, 19 16, this payment being made to meet 
the semiannual bond interest. The entry on the books 
of the Lenox Iron Works was as follows : 

July 1, 1916 

Bond Interest $50,000 

To Cash $50,000 

For payment of semiannual bond interest on 
$1,000,000 5% bonds, due today at the office 
of the trustee, The Grove Street Trust Com- 
pany, to whom the check has been issued. 

The corresponding entry on the books of the sinking 
fund trustee is shown below : 

July 1, 1916 

Cash $50,000 

To Coupons No. 1 (Lenox Iron Works) . . $50,000 

First deposit of cash for payment of Coupon 
No. 1 on $1,000,000 coupon bonds of the 
Lenox Iron Works. 

The coupons payable account will obviously remain 
open until all the coupons are paid. As payments are made, 
the trustee, of course, debits the coupon account and credits 
cash. 

Upon receipt of the first sinking fund instalment the 
following entry was made on the books of the Lenox Iron 
Works : 



304 



CORPORATE BOND ISSUES 



December 31, 1916 
Sinking Fund Trustee (or Trustee of the Sink- 
ing Fund) $50,000 

To Cash $50,000 

(Explanation.) 

The corresponding entry on the books of the sinking 
fund trustee is as follows : 

December 31, 1916 
Cash $50,000 

To Sinking Fund (Lenox Iron Works) . . $50,000 

First sinking fund instalment of the Lenox 
Iron Works for redemption of $1,000,000 
first mortgage 5% bonds of 1916, due Jan- 
uary 1, 1936. 

The succeeding entries of the sinking fund trustee 
would, as in those shown above, correspond to the entries 
on the company's books and therefore require no further 
illustration. 



CHAPTER XXII 

REDEMPTION OF BONDS 

§ 265. Plans for Redeeming Bonds 

The due date of any issue of bonds is stated in the 
deed of trust and also on the face of each bond. The 
deed of trust usually provides also that if any instalment 
of bond interest is not paid when due, and default con- 
tinues for a specified length of time, the principal is 
thereby matured and must be paid. In event of continued 
default in either the principal or interest, it is usually 
provided that foreclosure may follow, or perhaps the 
trustee is authorized to take possession of the mortgaged 
property and operate it for the benefit of the bondholders. 

The method of redeeming bonds depends largely on 
the nature of the particular bonds. The following methods 
are in general use: 

1. Payment in cash at maturity, usually through the 
sinking fund. 

2. By calling certain bonds each year for redemption. 
Under this method the numbers of the outstanding bonds 
are placed in a box or hat, shaken up, and a given number 
of them drawn, those drawn indicating the bonds which 
are to be redeemed. Legal notice of the numbers drawn 
for redemption is given to the bondholders by advertise- 
ment in the daily papers, and the bonds specified cease to 
bear interest from the date of the drawing, or some other 
specified date. 

3. Refunding at maturity, in which case the bonds 
are cancelled and new ones issued in their place the 

305 



306 CORPORATE BOND ISSUES 

holders of the old bonds either taking new bonds, or cash 
secured by the sale of these new bonds, in exchange for 
their old bonds. 

4. By serial payments. Under this plan serial bonds 
are issued, payable in instalments of so much per year 
during the currency of the bonds. 

5. By conversion into stock of the company, either 
at a fixed date or at the maturity of the bonds, or at some 
other convenient time prior to maturity. 

§ 266. (1) Redemption of Bonds Through Sinking Fund 

Bonds redeemed through the sinking fund are paid at 
maturity by the trustee, who then passes the cancelled 
certificates over to the issuing corporation for final record. 
Sometimes the cancelled bonds are cremated (§ 278), 
though more frequently retained by the company as a 
permanent voucher. 

The book entries at maturity of the bonds are very 
simple. To illustrate the entries necessary, the bond issue 
of the Lenox Iron Works may again be taken. This con- 
sisted of $1,000,000 of first mortgage 5% sinking fund 
bonds due January 1, 1936. Assuming that the bonds 
have matured and that the sinking fund for their redemp- 
tion amounts to $992,000, leaving $8,000 more to be 
made up by the company, book entries are required as 
follows : 

January 1, 1936 

Sinking Fund Trustee $8,000 

To Cash $8,000 

Cash paid over to the trustee of the sinking fund 
as per request, being the amount still re- 
quired by him for payment of $1,000,000 first 
mortgage bonds maturing this day. 

If the sinking fund had been scientifically calculated 



REDEMPTION OF BONDS 



30/ 



and maintained at all times at a given rate of interest 
without loss, the required amount for the redemption of 
the bonds should be available at their maturity in the 
sinking fund. It is, however, for obvious reasons, but 
seldom that the sinking fund is exactly equal to the 
maturing bonds. When a shortage occurs the company 
must raise the additional funds. If, on the other hand, 
the fund is in excess of the required amount, such excess 
must, of course, be returned to the company after the 
bonds are redeemed. 

Upon receiving notice from the trustee that all of the 
bonds have been redeemed, the following entry is made : 

January 1, 1936 

First Mortgage Bonds $1,000,000 

To Sinking Fund Trustee $1,000,000 

For payment by the trustee of $1,000,000 
first mortgage 5% twenty-year sink- 
ing fund bonds of 1916 due this day. 
The trust deed has been cancelled and 
the mortgage satisfied of record in the 
county recorder's office. 

Through the above entry, both the bond and the 
sinking fund accounts have been closed out. This results 
in the cancellation of two main accounts. The Sinking 
Fund Investments account, if kept on the company's 
books, should be closed into the trustee's account when 
he turns the securities into cash. In that case the entry 
given above should be preceded by the following entry, 
for the amount assumed to have been invested in 
securities: 

Sinking Fund 1 rustee $900,000 

To Sinking Fund Investments $900,000 

For conversion into cash by the trustee of 
sinking fund securities held by him to 
the amount of $900,000. 



3 o8 



CORPORATE BOND ISSUES 



This entry is made regardless of whether the sinking- 
fund investments are bonds of the issuing company or of 
other companies. The cancellation of all three accounts 
involved in the above entries might, of course, be accom- 
plished through the one journal entry as follows: 

First Mortgage Bonds $1,000,000 

To Sinking Fund Investments $900,000 

" Sinking Fund Trustee 100,000 

(Full explanation required here.) 

If a Sinking Fund Reserve account had also been created 
out of profits (see §§ 250 and 262), as is frequently the 
case, it can now be disposed of, as there is no further need 
of preventing the declaration of dividends to the impairment 
of current assets. The Surplus account or some permanent 
reserve can be credited with the amount of this account. 
Assuming that it has a credit balance of $1,000,000, the 
following entry is required : 

Sinking Fund Reserve $1,000,000 

To Surplus $1,000,000 

(Full explanation required here.) 

This reserve may now be used for dividend purposes. 
If that is not desired, it should be credited to some 
account other than Surplus account, such as Capital 
Surplus, Appropriated Surplus, or Reserve for Deprecia- 
tion. 

§ 267. (2) Bonds Drawn by Lot for Redemption 

When bonds are to be redeemed before maturity, the 
sinking fund trustee either advertises for the desired 
number of bonds at a stated price, draws certain numbers 
(bonds) by lot for redemption at a fixed price, or buys 
them in the market at the best prices obtainable. If the 
bonds to be redeemed are drawn by lot, in the case of 



REDEMPTION OF BONDS 



309 



coupon bonds, notice thereof is given to the holders by 
means of newspaper advertisements; in the case of reg- 
istered bonds, notices are sent direct to the holders. When 
bonds of the issuing company are purchased by the sinking 
fund trustee, they are, according to the provisions of the 
trust agreement, either retained as a sinking fund in- 
vestment — unless resold later at a higher price — or are 
handed over to the issuing company and cancelled. The 
company's bonded indebtedness is in the latter case 
reduced to the extent of the bonds, retired. 

The investor frequently objects to the plan of drawing 
bonds for retirement, because he never knows when his 
number may be drawn. He must therefore be on the 
lookout at each interest period for the announcement of 
drawings, thereby causing a certain amount of anxiety. 
If he should overlook the announcement, he would hold 
his bonds and be deprived of the use of his money for the 
ensuing six months, discovering his loss at that time 
through the fact that his coupons came back unpaid. 
Also the plan results in a very short investment period 
for those whose bonds are called first, and an uncertain 
investment period for all the holders of the particular 
bonds. On the other hand, the fact that called bonds are 
usually purchased at a premium has a tendency to offset 
any trouble to which the investor may be put in watching 
for the newspaper notices of calls and through the uncer- 
tainty of his investment period. 

The plan of selecting bonds for redemption by lot 
applies equally as well to debentures, short term notes, 
and other obligations. Bonds of clubs, institutions, office 
buildings, and the like, are frequently issued under this 
plan of redemption. 

The following advertisement calling for bonds for 
redemption is typical: 



310 CORPORATE BOND ISSUES 

Redemption Notice 
American Smelters Securities Co. 

Six Per Cent Fifteen-Year Sinking Fund Gold Bonds, Dated 
February i, 191 i 
Notice Is Hereby Given that one million, three hundred and forty- 
seven thousand dollars ($1,347,000) face amount of the above-described 
bonds were this day drawn for redemption as provided in Article 
Fourth of the Trust Agreement securing same, and numbered as 
follows : 

(1368 numbers listed here) 

All future interest on any of the bonds so designated ceases with 
the coupon due August 1, 1916. 

In accordance with the foregoing, said numbered bonds will be paid 
at this office on and after the first day of August, 1916, at 105% and 
accrued interest. 

Central Trust Company of New York 

Trustee 
By Geo. W. Davison, Vice-President 
Dated New York, April 17, 1916. 

The following bonds, called for redemption on February 1, 1916, 
have not been presented for payment, viz. : 

(13Q numbers here) 

§ 268. Entries for Bonds Called for Redemption 

When bonds are called for redemption, they may, 
according to the terms of the deed of trust, be either 
retained by the sinking fund trustee as a sinking fund 
investment, or be turned over to the company for can- 
cellation. Entries for bonds redeemed for sinking fund 
investment will be found in § 260; entries for bonds pur- 
chased by the sinking fund trustee for cancellation will be 
found in § 261. 

§ 269. (3) Refunding Bonds 

As already stated, a bond issue may be renewed or 
"funded" by a new issue of bonds bearing equally as good 
or better security. The deed of trust may even contain 



REDEMPTION OF BONDS 3H 

a provision giving the company the option of calling the 
bonds on or after a certain date. The reason for this is 
apparent. If the bonds are issued at a time when the 
interest rate is high or when the company is not well- 
known, the inclusion of a redemption clause that may be 
taken advantage of when the company is better known or 
stronger financially, or the money market is easier, would 
seem wise and prudent, as it may then call the old bonds 
and reissue new bonds bearing a lower rate of interest. 
Other conditions may arise also which would render the 
refunding of bonds before maturity necessary or.advisable. 

Nearly all railroad bonds are issued with the expec- 
tation of refunding at maturity. There are several reasons 
for this practice, but chiefly because of the relation of the 
bondholder to the corporation. Bond investors desire a 
fair return on their money, a sufficient guarantee that the 
principal is well secured, and assurance that such an in- 
vestment is permanent and not likely to be interrupted. 
A long time investment with a certainty of security and 
interest payments at a reasonable rate is greatly pre- 
ferred to short time paper even at a higher rate of interest. 
For this reason, the refunding of bonds when the company 
is of unquestioned financial strength is looked upon with 
favor. 

On the other hand, corporation interests are also well 
served by the refunding of bonds as opposed to their 
redemption in cash. If the company can make 10% on its 
investment in business activities, it seems better to use 
the money in that way than to set it aside in a sinking 
fund to earn 3 or 4%. 

Turning from the railroads, it is apparent that long 
time or refunding bonds are not likely to be issued on 
properties having a short life or a wasting nature; as the 
ordinary manufacturing plant, a coal mine, standing tim- 



312 CORPORATE BOND ISSUES 

ber, or tracts of land which are to be broken up into 
building lots. In cases of this kind the sinking fund 
method or the serial bond almost invariably prevails. 

Public utility corporations, as a rule, keep increasing 
their bonded debts until the limit prescribed by charter 
is reached, so that when one issue is cancelled another 
and larger issue replaces it, and as the process goes on 
any underlying or prior lien obligations are likely to be 
combined in the new issue. 

§ 270. Entries for Refunding Bonds 

For illustration of the entries required where bonds 
are refunded, we will assume that the first mortgage 5% 
bonds of the Pleasant Valley Electric Railway Company 
for $10,000,000 matured July 1, 1916, and that they were 
refunded by part of a new issue of consolidated first mort- 
gage 5% fifty-year bonds for $20,000,000. The following 
entry is required for the refunding operation: 

July 1, 1916 
First Mortgage 5% Bonds (maturing) . . $10,000,000 
To Unissued Consolidated First 

Mortgage 5% Bonds (or Cash) $10,000,000 

Refunding of $10,000,000 first mort- 
gage 5% bonds due this day at the 
office of the trustee, the Barton 
Trust Company. The bonds have 
been cancelled and returned and the 
mortgage satisfied of record. 

In cases such as this the new bonds may either be 
exchanged for the old, as assumed above, or they may be 
sold in the usual way and cash used for redeeming the 
maturing obligations. This latter plan is the more general 
and is the one employed by the Pennsylvania Railroad 
Company and many other large companies. 



REDEMPTION OF BONDS 



313 



§ 271. (4) Redemption of Serial Bonds 

Serial bonds have already been discussed in § 192. 
The bonds are usually paid in annual instalments of given 
amounts beginning a few years after the date of issue; 
therefore the redeeming process is a continuous feature 
after it is once started. Like other mortgage bonds, 
serial bonds are usually payable at the office of the com- 
pany's fiscal agent or at the office of the trustee, but in 
any case the money required for their redemption is paid 
over by the company as the instalments mature. The 
interest coupons are payable by the company or its fiscal 



agent. 



Assuming that the first mortgage 6% serial bond issue 
of $3,000,000 of the Georgian Paper and Pulp Company 
is payable in instalments of $150,000 each year beginning 
February 1, 191 9, and that the date for paying the first 
instalment is at hand, the following retirement entry is 
made: 

February 1, 1919 

First Mortgage 6% Serial Bonds $150,000 

To Cash $150,000 

Payment of Instalment No. 1 of the $3,- 
000,000 first mortgage serial 6% bonds of 
1916. 

As the bonds are paid they are cancelled and handed 
over to the company for record. In place of the above 
entry two entries may be substituted if desired, one 
crediting cash and debiting the trustee as the cash is paid 
over, and the other debiting the bond account and credit- 
ing the trustee as the bonds are received by the company. 

Under the trust deed the company has the privilege 
of paying off additional instalments in order of serial 
numbers (or the reverse order), in advance of maturity, at 
103 and interest. As already explained in § 260, the pre- 



314 CORPORATE BOND ISSUES 

mium paid for such redemption is in turn closed into Profit 
and Loss. In that case the entry differs from the above only 
with respect to premium paid, and is : 

First Mortgage 6% Serial Bonds $150,000 

Premium on Redeemed Bonds 4,500 

To Cash $154,500 

(Full explanation required here.) 

§ 272. (5) Entries for Convertible Bonds 

A convertible bond, as already stated (§ 191), is one 
which under prescribed conditions carries the right of 
conversion into other securities of the same corporation. 
These convertible bonds may be exchanged for stock of 
the company at a stated price, provided the holders 
thereof care to take advantage of the privilege. For in- 
stance, the convertible 4 1/2% bonds for $67,000,000 of 
the American Telephone and Telegraph Company are 
convertible at par into stock of the company at $120 per 
share from March 1, 191 5, to March 1, 1925. When the 
convertible bonds are issued provision is, of course, made 
so that there may be a sufficient amount of unissued stock 
or other securities to which the conversion privilege will 
apply. 

The entries required to give expression to such a 
conversion are quite simple: 

Convertible Bonds, etc 

To Unissued Stock (or other security).. . 

" Premium on Stock 

(Full explanation.) 

§ 273. Redemption of Collateral Trust Bonds 

The entries for the redemption of collateral trust bonds 
are not different from those for the redemption of ordinary 
mortgage bonds, except that the security which had 



REDEMPTION OF BONDS 



315 



passed out of the company's possession at the date of 
issue now comes back. An extra entry is required to 
record this transfer. 

Assuming that the due date of the Harney Electric 
Company's $1,000,000 twenty-year collateral trust 5% 
gold bonds, interest payable half-yearly, has arrived, that 
they have been paid by the trustee, and that the collateral 
has been released to the company, the entry required at 
the time is: 

July 1, 1936 

Collateral Trust 5% Bonds $1,000,000 

To Cash $1,000,000 

Payment of $1,000,000 twenty-y^ar 5% 
collateral trust bonds matured this day 
at the office of the trustee, the Hudson 
Trust Company. 

If desired, this amount may first be charged to the 
trustee, if payment is made by him, and be followed by 
another entry debiting the bond account and crediting 
the trustee. 

The collateral security now having been released to 
the company may be recorded by the following entry: 

July 1, 1936 

Investments $1,340,000 

To Pledged Investments $1,340,000 

Return of collateral pledged with the 
Hudson Trust Company as security 
for $1,000,000 collateral trust bonds, 
as follows: (Here list details and 
values of stocks and bonds returned.) 

This returns the securities to the Investments account, 
and they are now free for use in other ways if necessary. 
The explanations given above apply also to secured short 
term notes, and like obligations. 



316 



CORPORATE BOND ISSUES 



§ 274. Redemption of Short Term Notes 

Short term notes (§ 203) are either secured or un- 
secured, and as they mature they are paid like other bond 
obligations, and the book entries required are similar to 
those for other classes of bonds. If the notes are secured 
by a deposit of collateral, an entry should be made as soon 
as the collateral is returned, removing the collateral from 
the Pledged Collateral account and returning it to the 
Investments account, as in the case of collateral trust 
bonds. Unissued, or nominally issued, bonds of the com- 
pany that have been pledged as security for bank loans or 
other obligations, should in like manner be recorded in some 
distinguishing account. 

§ 275. Redemption of Equipment Trust Bonds 

Equipment certificates are usually issued in series, as 
Series A, B, C, etc., each being secured by a given portion 
of the equipment. As each instalment of the certificates 
is paid by the trustee out of money supplied by the com- 
pany, the equipment trust certificates are cancelled and 
returned to the company. As soon as a series is paid off, 
which may require two or three instalments, the equip- 
ment thereunder is released to the company. It is then 
transferred from the trust equipment account to the free 
equipment account. Assuming that upon payment of the 
first instalment of $1,000,000 of an equipment trust bond 
issue, one-fifth of the equipment held as security is re- 
leased to the company, it would be reflected in the 
following entries, it being assumed that the released 
equipment is of the value of $2,000,000: 

July 1, 1916 

Equipment Trust Certificates $1,000,000 

To Cash $1,000,000 

First instalment of 6% equipment trust 
certificates paid this day, etc. 



REDEMPTION OF BONDS 



317 



This entry is then followed by a transfer entry 
somewhat as follows: 

Equipment Cars (or Locomotives) $2,000,000 

To Equipment Trust Cars $2,000,000 

For transfer of $2,000,000 of equipment 
released under equipment trust cer- 
tificates. (Full explanation.) 

§ 276. Redemption of Guaranteed Bonds 

Guaranteed bonds are issued, as a rule, by subsidiary 
or affiliated companies (see § 197), and should be re- 
deemed by the issuing company. A contingent liability 
is, however, incurred by the guaranteeing company as 
soon as the bonds are indorsed, but it is not usual to make 
any entry in the books of account at the time. A complete 
record of the matter is, of course, made in the corporate 
minutes. If no entry is made when the bonds are indorsed 
by the company, then no entry is necessary at their 
maturity so long as they are duly paid by the issuing 
company. On the other hand, if an entry is made at the 
beginning, an offsetting entry is required when the bonds 
are paid by the issuing company. 

If the guaranteeing company is required to make 
payment for all or any part of the bond issue, it must 
then, of course, make an entry debiting the issuing com- 
pany and crediting cash, and will look to the issuing 
company for reimbursement. The Pennsylvania Railroad in 
191 5 had outstanding guaranteed stock trust certificates of 
underlying companies aggregating $13,393,250, of which 
$7,478,250 matures in 1948 and $6,915,000 in 192 1. 

§ 277. Bonds in Default 

In case of default in the payment of bonds, or even 
in the interest thereof, the trustee is usually empowered 



3i8 



CORPORATE BOND ISSUES 



by the deed of trust to enter upon and take charge of the 
mortgaged property for the benefit of the bondholders. 
In that event the company is forced into bankruptcy, or 
a receivership, or a reorganization of some kind, unless 
the bondholders consent to an extension or renewal, 01 
to some other plan of adjustment that will permit the 
company to continue its career. For instance, the 
Missouri Pacific Company's 5% secured notes for $25,- 
000,000, due June 1, 1914, were extended for one year 
with interest at 6%. Again, in 191 5 these notes were 
renewed for another year, over 95% of the holders having 
agreed to the extension. Those not agreeing to the ex- 
tension were paid in cash. 

Unpaid bond obligations should, by right, be removed 
from the regular bond account and credited to some other 
account that will clearly designate the nature of the 
obligation, as: 

Four- Year Secured 6% Notes $600,000 

To Matured Four- Year 6% Notes $600,000 

An account may even be opened for "Defaulted 6% 
Notes," "Overdue 6% Notes," "Renewed 6% Notes," or 
"Extended 6% Notes," as the case may require. 

§ 278. Destroying Bonds 

When bonds are redeemed by the trustee they are, of 
course, cancelled, and they are then either returned to the 
company or cremated by the trustee. The advisability of 
burning retired bonds is a matter of dispute. If done at 
all, it is done in the presence of the officers of the issuing 
company and of the trust company, all of whom sign in 
duplicate a cremation certificate, their signatures being 
duly witnessed. The cremation certificate reads about as 
follows: 



REDEMPTION OF BONDS 319 

"This is to certify that we, the undersigned, have this 
day in the presence of each other, destroyed the following 
described securities by burning the same to ashes." (Here 
follows a detailed description of the securities burned.) 



Part V — Corporation Reports and Statements 



CHAPTER XXIII 

CLOSING THE BOOKS; RESERVE FUNDS 
AND SURPLUS 

§ 279. Closing the Books 

At the end of each fiscal year, or oftener, it is customary 
to "close the books," that is, "close the ledger." Where it 
can be done conveniently, it is usual and advisable to make 
the fiscal year correspond with the calendar year; but in 
many cases it is preferable to have the fiscal year end at a 
time when business is slack, or when the inventory can be 
taken with the least labor. In the dry-goods business, for 
instance, the fiscal year might be made to close just before 
the fall merchandise comes in, when the stock is low, so that 
the physical inventory may be taken with comparative ease. 
Under the modern plan of keeping perpetual or book inven- 
tories, however, a physical inventory is not necessarily taken 
before closing the books, and the end of the fiscal year is 
usually made to coincide with the end of the calendar year. 

At the closing date it is the practice to prepare such 
statements, usually profit and loss statement and balance 
sheet, as will clearly exhibit the business operations of the 
company for the year and also show its true financial con- 
dition at the time. 

Financial statements do not, however, in themselves 
necessitate a closing of the books, and they are frequently 
made up monthly, quarterly, or half-yearly for the purpose 
of supplying information which the officers and directors 

320 



CLOSING THE BOOKS 321 

need before the time of the annual closing. This does not 
mean that the ledger is closed, or changes made in any of 
the accounts, but simply that the required balances, inven- 
tory totals, and accrued items are compiled from the books 
and records as they stand, and are presented in condensed 
form to the corporation officials. A complete profit and loss 
statement can be made each month with but little extra 
work, provided a running inventory is maintained in the 
records. In many companies, however, it is the practice to 
make adjusting entries each month to bring the ledger into 
harmony with the monthly profit and loss statement and 
balance sheet. In that case all prepaid and accrued items, 
as interest, insurance, taxes, etc., must be considered. The 
distribution of overhead expenses is also a feature of great 
importance in the case of manufacturing establishments. 

§ 280. Procedure in Closing the Books 

The steps to be taken in closing the books are briefly as 
follows : 

1. Determine the inventories of merchandise, proper- 
ties, supplies, etc., making adjustments where necessary, 
and enter them in the proper respective accounts. 

2. Compute and group prepaid and accrued items and 
make entries to the proper accounts. 

3. Determine depreciation of properties and make 
entries for same. 

4. Consider and enter reserves of whatever nature. 

5. Close the nominal accounts into Profit and Loss 
account, usually by journal entry. Journal entries may be 
used also for the entering of inventories and accruals. The 
net profit or net loss is then carried to Surplus account or to 
Undivided Profits account. 

6. Balance and rule the nominal accounts and bring 
down the inventories where necessary. 



322 



REPORTS AND STATEMENTS 



7. Make a second trial balance of the ledger. This 
would now consist only of assets and liabilities and the 
balance of the Profit and Loss account. 

8. Prepare income and profit and loss statement show- 
ing gross and net profit, accompanied by analyses and per- 
centages when desired. Show comparisons of items w T ith 
like items from preceding years where desirable. 

9. Prepare balance sheet showing the company's net 
worth and financial condition. Show comparisons with 
assets and liabilities of preceding years where desirable. 

10. Prepare other exhibits, schedules, or summaries 
as required. 

11. Contingent assets or liabilities should be noted, at 
least as a footnote to the balance sheet, and adjustments 
made where necessary. 

§ 281. Closing the Ledger 

The ledger must be closed systematically with the 
various nominal or profit and loss accounts properly sub- 
divided. For example, all accounts directly affecting pro- 
duction costs should be closed into the Manufacturing 
account, in order to determine the exact cost of the finished 
stock ; and all selling expenses, administrative expenses, etc., 
should be carefully classified and closed in accordance with 
the degree of information required and the plan of the 
bookkeeping system. The net profit must, of course, be 
clearly stated, and sometimes the gross profit as well. It is 
not necessary to close the real or asset and liability accounts, 
except when they are balanced by settlement or adjustments, 
or when forwarding them to another page or to another 
ledger. 

Monthly trial balances should, of course, be made of all 
ledgers, and the main ledger be in balance before it is closed. 

When closing the ledger, transfers of the nominal ac- 



CLOSING THE BOOKS 



323 



counts to the manufacturing accounts and to the Profit and 
Loss account are usually, though not necessarily, made by 
journal entry. Transfers might be made directly on the 
face of the ledger without supporting journal entries or 
explanation, but it is preferable to make such transfers 
through the journal; this summarizes all of the items and 
provides a means of supporting each ledger entry by ade- 
quate explanation. The journal explanations may be very 
brief, but should be clear and unmistakable for the benefit of 
others who may have to make reference thereto. 

It is in closing the ledger preparatory to the making of 
the statements that many of the more difficult problems of 
accounting arise. With this in view, the following sections 
have been devoted to a brief discussion of most of these 
points. 

The methods of handling the accounts peculiar to cor- 
porations when preparing statements have already been 
treated in considerable detail (see especially Chapter VI, 
"Distinctive Corporate Accounts"), so that discussion of 
them has been omitted in this chapter. 

Reserve Funds 
§ 282. Reserve Accounts 

Reserves represent profits set aside for definite and 
specific purposes. The prudent business man is careful not 
to overstate his profits, and, to prevent this, due allowance 
is made in the form of reserves to meet any anticipated or 
expected losses. They include all amounts reserved or kept 
back for future use, as reserve for bad debts, reserve for 
depreciation, reserve for discounts, reserve for insurance or 
sick benefits, reserve for sinking fund, etc. For instance, it 
is a well-known fact that customers' accounts are frequently 
uncollectible, and experience has shown the advisability of 
making due allowance for such losses. The following 



324 



REPORTS AND STATEMENTS 



reserve for bad debts, against which worthless accounts may 
be charged directly as they occur or at the end of the year 
through the Bad Debts account, illustrates the working of a 
reserve account. 

Reserve for Bad Debts 



1916 
Dec. 31 


Bad Debts 
written off 
during the 
year and 




1916 
Jan. 1 
Dec. 31 


Balance $3,680.29 

Profit and Loss 3,291.40 


it « 


charged to 
Bad Debts 

account 

Balance 


$3,468.75 
3,502.94 


1917 
Jan. 1 






$6,971.69 


$6,971.69 






Balance $3,502.94 



§ 283. Reserve Accounts and Reserve Funds 

When profits are reserved for a particular purpose, and 
specific funds or property are set aside or invested to meet 
the needs of this reserve, a reserve fund is thereby created. 
Thus, if a reserve is created for the redemption of bonds or 
for the replacement of a wasting asset, by the reservation of 
cash, or by the investment of cash in securities, the cash or 
securities being held for the specific purpose of redeeming 
the bonds, the result is a sinking fund or replacement fund, 
as the case may be. If, however, a reserve is created for the 
redemption of bonds by a charge against Surplus or Profit 
and Loss, but no actual reservation of cash or other property 
is made, the result is a sinking fund reserve. In the one 
case the actual cash is withdrawn and held, and it, or its 
equivalent if it is invested, is there for the redemption of the 
bonds as they fall due. In the other case, the profits have 



RESERVE FUNDS 



3*S 



been withdrawn from Surplus or Profit and Loss, as the 
case may be, so that they cannot be declared in dividends 
or diverted to other uses. 

This being so, when the bonds fall due, their redemption 
will not impair the capital or reduce the surplus, because of 
the reserve ; but this is all the reserve does, and the directors 
must then take such steps as may be necessary to secure cash 
to pay the bonds. Sufficient cash may perhaps be in the 
treasury for the purpose, but, in the case of a large amount 
of bonds or an entire issue falling due, this is seldom the 
case; as a result cash must be borrowed or be secured by 
the sale of some of the company's property to meet redemp- 
tive needs. For this reason, to provide for the redemption 
of bonds or the liquidation of any heavy obligation, the 
reserve fund, or both fund and reserve are generally set up. 

Reserve accounts are in the nature of liabilities and are 
always shown on the balance sheet as credits, or as a deduc- 
tion from assets, while funds of whatever nature are assets 
and therefore appear on the debit side or otherwise as a 
deduction from liabilities. Loss of assets for which re- 
serves have been provided is written off by a debit to the 
reserve and a credit to the specific asset. An examination 
of the balance sheets appearing in Chapters XXV, XXVI 
will show the different reserve accounts and the manner of 
handling them. 

§ 284. Secret and Hidden Reserves 

The terms "hidden reserves" and "hidden assets" are 
practically synonymous with "secret reserves." The latter 
term is familiar to accountants as representing the excess of 
actual net worth of a concern over and above the amount 
indicated on its balance sheet. For some reason, the direc- 
tors may not wish to disclose in a financial statement the 
true status of the company's condition, and they act accord- 



3 26 



REPORTS AND STATEMENTS 



ingly in understating the true facts. This may be due to a 
spirit of conservatism which is no doubt permissible in case 
no one is injured thereby. Sometimes, however, the actual 
net profits for a given year are understated for the purpose 
of lessening the state and federal corporation tax, and per- 
haps to keep both stockholders and competitors in ignorance 
of the company's actual earnings. 

Following are various acts or omissions which result in 
the creation of secret reserves : 

1. Intentionally or inadvertently omitting assets 

which should be included. 

2. Undervaluing assets, intentionally or otherwise. 

3. Writing off too much depreciation. 

4. Charging additions and improvements to Repairs 

or Maintenance account instead of to Plant 
account. 

5. Creating reserves for bad debts in excess of the 

amount required. 

6. Charging production costs intentionally or other- 

wise, to general expense instead of to the manu- 
factured article, thus undervaluing the cost. 

7. Including fictitious liabilities in the accounts, or 

overstating actual liabilities. 

8. Making additions or improvements and charging 

the cost to Surplus account, thereby hiding their 
value. 

9. Neglecting to take into consideration in the ac- 

counts natural increases in value of real or other 
property. 
10. Understating values in good years and increasing 
them in lean years as a means of keeping the 
dividends uniform from year to year. 

The hidden reserve is a commendable creation in case it 



RESERVE FUNDS 327 

is not carried to excess and provided it is not detrimental to 
interested persons. The spirit of conservatism, to a reason- 
able extent, is to be commended by the accountant rather 
than criticized. If, however, stockholders are kept in igno- 
rance of secret reserves of considerable amount, the auditor 
should draw attention to this fact in his report. 

§ 285. Depreciation 

Depreciation is the reduction in the value of a fixed 
asset through use r the passage of time, or obsolescence. All 
property, with the possible exception of land, must inevi- 
tably reach the end of its usefulness, since disintegration is 
the law of nature. Machinery in use suffers from wear and 
tear. Machinery not in use is subject to depreciation from 
rust and decay. Whether in use or not, the onward march 
of invention and improvement in mechanical lines, together 
with the necessity of meeting sharp competition in business, 
requires that machinery shall be modern in every respect. 
Accordingly, obsolete machinery must be replaced by mod- 
ern equipment. 

In the case of machinery or equipment designed for 
manufacturing purposes, depreciation is considered a part 
of the cost of production. 

§ 286. Methods of Handling Depreciation 

There are several methods of handling depreciation on 
the books. Since it is not possible to determine the exact 
rate at which properties will depreciate, it becomes necessary 
to follow the results of past experience. From this it is 
possible to determine with reasonable certainty the life of a 
given property; and the rates of depreciation may then be 
approximated. 

The methods more commonly employed in caring for 
depreciation are as follows : 



^. 2 g REPORTS AND STATEMENTS 

i. Even portions of the original value are charged off 
each year. 

2. An annual per cent of the diminishing value is 

charged off each year. 

3. Depreciation is offset by improvement and mainte- 

nance charges. 

The life of machinery is from five to twenty years, de- 
pending upon the usage to which it is subjected. It is mani- 
fest that the rate on diminishing values must be higher than 
the rate on the original value. If a machine is likely to run 
for twenty years, then a fair rate of depreciation would be 
5% on the original cost and from 7 to 10% on the diminish- 
ing balance. The method of diminishing values seems the 
more logical of the first two methods of caring for deprecia- 
tion, since the burden is distributed more equitably and the 
property has a residual value at all times. It throws the 
heaviest charge for depreciation on the first few years when 
the machinery is in good condition, and then gradually 
decreases as the efficiency of the property is impaired. On 
the other hand, the repairs during the last years are larger 
than at the beginning, so that the annual deduction from 
profits is not unequally distributed. 

All repairs should, of course, be charged to Repairs 
account and then closed into Profit and Loss account, or 
perhaps treated as a manufacturing cost. Additions and 
permanent improvements should be charged to the property 
account benefited thereby, and be subjected to the same 
process of depreciation as the original property. There are 
very few cases, if any, where repairs and improvements can 
take the place of an ample provision for depreciation. 

The rates of depreciation on different kinds of properties 
have been carefully compiled by engineers and accountants, 
and depreciation tables have been worked out from these 
calculations, which will be found convenient. 



RESERVE FUNDS 



329 



The first method of depreciation requires no illustration. 
The following account will show the application of the 
second method. 



Machinery Account 

(10% Depreciation off Diminishing Values Annually) 



1915 
Jan. 1 Investment ... .$100,000.00 



1016 
Jan. 1 Balance 



191 7 



$100,000.00 



$ 90,000.00 



$90,000.00 



Jan. 1 Balance $ 81 ,000.00 



1915 
Dec. 3,1 Depreciation. . $10,000.00 
Balance 00,000.00 



$100,000.00 



1916 
Dec. 31 Depreciation. . $ 9,000.00 
Balance 81,000.00 



$90,000.00 



This process is continued from year to year until the 
value of the machinery is consumed, or it is sold or dis- 
carded. If the depreciation proves too high or too low, 
modification of the percentage rate used or other adjust- 
ments may be necessary. 

If statements are required each calendar month, necessi- 
tating a distribution of depreciation, it will be necessary to 
make an entry each month debiting Depreciation and cred- 
iting the property account for one-twelfth of the annual 
amount to be written off. In lieu of this process, a good 
plan is to make entries only at the end of the year for the 
amount to be written off, while the monthly distribution is 
made on separate analysis sheets. In this way the informa- 
tion required for monthly statements can be compiled on 
loose sheets without affecting the ledger accounts or necessi- 
tating so many journal entries. 



330 



REPORTS AND STATEMENTS 



§ 287. Reserve for Depreciation 

Instead of writing down the property account from year 
to year, a more generally approved plan of entering depre- 
ciation on the books is to set up a "Reserve for Deprecia- 
tion." It is credited each year or each month with the 
amount to be written off, while a corresponding charge is 
made to Profit and Loss, to Operating Expense, or to De- 
preciation account. It is apparent that under this method 
the property account remains on the books at its cost value, 
while the corresponding reserve account stands as an open 
credit on the books and in the trial balance. This is more 
satisfactory than a direct credit to the property account, 
since it shows at any time the book accounts of properties 
at their cost price, and the depreciation reserves set up 
against them. 

Where properties are written down very rapidly by 
actual credits to the property account, it is hard to convince 
the insurance adjuster, in case of loss by fire, that they are 
really worth more than the balances shown in the accounts. 
Of course, it is not assumed that either the corporation offi- 
cials or the insurance adjuster would be influenced by the 
account alone without an investigation of the facts ; yet it is 
nevertheless a difficult matter to show that properties are 
really worth more than the owner has actually valued them 
in his book accounts. While the property and reserve ac- 
counts are shown separately in the books, in the balance 
sheet the reserve for depreciation is frequently deducted 
from the property, thus : 

Plant and Machinery $100,000.00 

Less Reserve for Depreciation. 10,000.00 $90,000.00 

§ 288. Operation of Reserve for Depreciation Account 
A general reserve account may be opened for deprecia- 



RESERVE FUNDS 33! 

tion of all properties, or a separate reserve account may be 
opened for each class of property. This depends, of course, 
upon the different kinds of properties to be depreciated and 
on the plans of the supervising accountant. It should be 
remembered that reserves are not surplus profits, but merely 
negatives to, or deductions from, the corresponding assets. 
Instead of deducting these depreciation reserves from their 
corresponding assets, as shown in the illustration above, they 
are frequently placed in the balance sheet among the liabili- 
ties. Any addition to the Machinery account will, of course, 
require a corresponding increase to the annual reserve. In 
case a machine becomes obsolete and is discarded, it must 
be charged off to the reserve account as follows : 

Reserve for Depreciation $14,500 

To Machinery Account $14,500 

To write off obsolete and worn-out machinery 
as follows: (Here give details.) 

The sale of old machinery or of scrap necessitates a 
debit to Cash and a credit to Reserve for Depreciation or to 
Profit and Loss account. If an ample depreciation account 
is maintained for all properties, any machine becoming obso- 
lete or worthless before the time estimated should, in like 
manner, be written off against Reserve for Depreciation. 
In case the reserve is not sufficient to offset the entire 
amount, then the excess must be charged to Profit and Loss. 
The accountant or careful corporation official will see that 
the depreciation reserve is maintained at an amount amply 
sufficient for every purpose. 

§ 289. Sinking Fund for Exhaustion of Mines 

In the ordinary commercial undertaking the profits are 
made on the turnover, and at the end of a term of years the 
investment — save in case of disaster — is intact, and pre- 



™ REPORTS AND STATEMENTS 

sumably the business is far more valuable than when it was 
started. In mining and similar undertakings, however, the 
profit is made from the removal of the mineral, and under 
ordinary conditions the value of the property becomes 
steadily less with each ton of ore removed, until on its final 
exhaustion there is left a tract of rough and worthless land 
and machinery of but little further value. In other words, 
the original investment has disappeared — has been con- 
sumed, or realized upon, in the course of operation. 

This gradual working out or liquidation of the original 
investment is characteristic of mining, quarrying, timbering, 
and other operations, and, if the conditions are clearly rec- 
ognized, is not in any way objectionable. Frequently, 
however, the owners prefer to establish a sinking fund or 
depreciation reserve that will preserve the integrity of the 
original investment, so that profits only will be paid the 
owners from current operation. 

The establishment of such a sinking fund, or "exhaus- 
tion" or "replacement" fund as it is frequently called, is a 
comparatively simple matter. The amount of mineral in 
the mine, or of timber on the tract, is estimated; and a 
certain amount calculated to replace the original investment 
upon or before the exhaustion of the property, is reserved 
and set aside for each ton of ore mined, or for each thou- 
sand feet of lumber cut. For instance, the Cambria Steel 
Company carries a "Reserve for Extinguishment of Min- 
erals" aggregating some $500,000; the Bethlehem Steel 
Corporation carries a "Reserve for Depreciation of Prop- 
erty, Exhaustion of Minerals, etc.," of over $10,000,000; 
the International Harvester Company carries a "Reserve 
for Plant Depreciation and Extinguishment" of over 
$10,000,000; and the United States Steel Corporation has 
reserves for similar purposes aggregating over $24,000,000. 

The amount reserved for exhaustion or replacement is 



RESERVE FUNDS 333 

deducted from profits and credited to a special reserve 
account ; but, since the creation of such a reserve is entirely 
at the option of the owners, the actual assets may remain 
in the business, or, if preferred, may be set aside in cash as 
a special exhaustion fund. If cash is drawn from the busi- 
ness to provide this special fund, it may either be placed in 
the hands of a trustee, or of a committee of directors, or of 
the entire board. Unlike a bond sinking fund where the 
deed of trust requires cash to be withdrawn, the exhaustion 
fund is generally a voluntary matter and may be regulated 
as seems best to the owners of the property. 

§ 290. Insurance, Benefit, and Accident Funds 

The creation of special funds and reserves for insuring 
properties against loss by fire, for sickness and pensions, for 
old age benefits, and against accidents and other contingen- 
cies, is a common feature of modern corporation finance. 

The United States Steel Corporation in its last annual 
report shows reserves on the liability side of its balance 
sheet as follows : 

Contingent and Miscellaneous Operating Funds 

Pension Fund 

Insurance Funds 

The Pennsylvania Railroad Company maintains the 
following funds, the purposes of which are apparent : 

Consolidated Mortgage Sinking Fund 
Insurance Fund for Fire, Marine, etc. 
Employees' Voluntary Relief Fund 
Employees' Saving Fund 
Employees' Pension Fund 

The International Harvester Company in its annual 
report shows the following reserves on the liability side of 
its balance sheet : 



234 REPORTS AND STATEMENTS 

Depreciation and Extinguishment 

Special Maintenance 

Collection Expenses on Receivables 

Fire Insurance Fund 

Pension Fund 

Industrial Accident Fund 

Profit-Sharing 

Contingent (European War Losses, etc. J 

The three representative corporations cited above may 
be taken as fair examples of the modern practice in the mat- 
ter of creating reserves and funds. Except in a few of the 
compulsory cases, the reserves are not represented by 
specially appropriated assets, thus indicating that the regu- 
lar cash assets are relied upon to meet any demands made 
from these sources. 

Surplus 

§ 291. Surplus or Undivided Profits Account 

"Surplus" account usually contains all those profits that 
are not reserved for some special purpose or which are not 
immediately to be distributed in the form of dividends. Or, 
more broadly, it is the account in which is entered all excess 
of assets over liabilities which is available for dividends or 
other general purposes of the company. In the balance 
sheet it is represented by the excess of assets over liabilities 
and capital, the difference being a credit either to Surplus, 
or to Undivided Profits, or sometimes to Profit and Loss. 
Where a surplus exists, it is usually maintained as a meas- 
ure of safety to strengthen the financial condition of the 
company and to safeguard it against unforeseen contingen- 
cies. In England and extensively in Canada, the surplus is 
called the "Reserve Fund." 

Surplus account may be credited with the year's net 



SURPLUS 



335 



profit before the dividend is declared, or with the portion 
of profits to be retained in the business after payment of 
dividends. Dividends are usually not declared until the 
amount of net profit is known, unless the unapportioned 
surplus is ample to cover any shortage that might result; 
to do otherwise might result in wiping out the reserve that 
had been created during prosperous years. A large sur- 
plus is the pride of every well-managed corporation, and 
especially of banking institutions in which the surplus is 
frequently larger than the capital stock itself. 

Banks usually make a distinction between surplus and 
undivided profits. Each year they carry a given amount of 
the net profit to Surplus account to serve as permanent 
working capital, while the remainder after payment of divi- 
dends is carried in the Undivided Profits account. Many 
corporations make no distinction but use either one or the 
other for all purposes. Some use "Surplus and Undivided 
Profits" account, or "Surplus and Deficiency" account, 
while others use only the Profit and Loss account. 

The Surplus account is frequently entitled "Surplus and 
Deficiency" account, in order that it may, without misnomer, 
not only accommodate surplus but any deficiency as well. 
This is the plan used by public service commissions in their 
schedules and reports. The account is credited with surplus 
profits and charged with such net loss as may result in any 
year. A debit excess of this account, of course, represents 
a deficiency or impairment of capital, while a credit excess 
is the opposite. 

§ 292. Contributed Surplus 

Sometimes stock is subscribed for at a figure above its 
par value, and a surplus is thus created by contribution at 
the time the company is organized. This is done in order 
that the company may have a safety fund for emergencies, 



336 REPORTS AND STATEMENTS 

or additional working capital while the business is being 
launched. In that case Surplus account is usually credited 
for the amount contributed in excess of the capital stock. 
This plan is commonly employed in the organization of 
national banks in which the stockholders are liable for debts 
of the company to an amount equal to the stock they hold. 
The practice is to sell the stock at, say, $125, $150, or even 
$200 per share, in which case the double liability of the 
stockholders is completely provided for and the institution 
itself secures a material addition to its working capital. 

Surplus is sometimes the result of a direct acquisition of 
value not belonging to the fiscal period or to the opening of 
business, as an increase in value of real estate, of invest- 
ments, or of other assets of a permanent nature. If such 
increase is permanent, it may legitimately be credited to 
Surplus account. Property value increases, however, if 
used for the purpose of creating a fictitious surplus on 
which to declare dividends, should be severely condemned 
by accountants and corporation officials. It is not good 
business prudence in any case to use appreciation of values 
for dividend purposes. Dividends declared and paid on the 
strength of fictitious profits must, as a rule, be accounted 
for in case of the company's failure ; it is equivalent to pay- 
ing dividends out of capital for which the directors are held 
personally liable. 

§ 293. Investments of Surplus 

It is common practice for corporations to invest part of 
their surplus cash in gilt-edged securities, such as bonds and 
stocks of other companies. This insures the company 
against danger of being without liquid funds in case of a 
crisis ; but, on the other hand, when the low rate of return 
from these securities is considered, it is manifest that the 
money thus invested could be used more profitably in the 



SURPLUS 337 

business. However, most corporations follow the practice 
of investing in such securities, knowing that they can be 
used at any time as collateral for securing bank loans or 
for sale on the stock exchange. 

It should be remembered that any "surplus" is always 
represented by an equivalent of assets, but as a rule these 
assets are not earmarked or in any way designated except 
perhaps as investments. In case a special surplus fund is 
created by setting aside cash, an account must be opened 
under the caption "Surplus Fund" or "Investments," or any 
other designating term. Such outside investments may, 
but generally do not, represent all of surplus profits. Sur- 
plus account always shows a credit balance (unless a deficit 
occurs), while the surplus fund (or any other fund) shows 
a debit balance. Income from surplus funds invested should, 
of course, be credited to Income account. 



CHAPTER XXIV 

FORMS OF STATEMENTS 

§ 294. Corporate Reports 

There are two types of corporate reports and statements : 
those rendered by the directors and corporate officials to the 
stockholders and governmental authorities, and those ren- 
dered by the accounting department of the corporation to 
the executives. It is to the latter class that the present dis- 
cussion will be directed. 

§ 295. Necessity for Reports 

To manage the business intelligently it is essential that 
corporate officials be constantly informed as to the financial 
status and progress of the concern. In the case of the small 
corporation where the executives are in intimate touch with 
the daily activities of the business, monthly or even quar- 
terly statements of income and profit and loss, and balance 
sheets are adequate to give them sufficient information to 
run the business properly. 

In the case of the large corporation, however, where the 
scope of activity and the volume of business is such that it 
is absolutely impossible for the executive to keep in close 
personal touch with the various details of the business, it 
is the duty of the accounting department to provide suitable 
statements and statistical data to keep him thoroughly 
informed. In an organization of this type it may be neces- 
sary to have daily reports showing in memorandum form 
the essential facts of the business such as the sales, pur- 

338 



FORMS OF STATEMENTS 339 

chases, collections, expenditures, bank balances, manufac- 
turing or operating details; weekly or monthly statements 
of cash receipts and disbursements; monthly statements of 
income and profit and loss, and balance sheets, together 
with such other statistical information as may be needed.* 

§ 296. Form of Statements 

While there are no generally accepted or standard forms 
for corporate statements, those given on the following pages 
are fairly representative of the best practice. Modifications 
may often prove desirable to meet the needs of local condi- 
tions, but, when making these modifications, the accountant 
must be most careful to see that the statements as rendered 
will not be misleading to anyone, and that they convey 
information to those who will use them in as interesting and 
clear a manner as possible. The forms given in Chapters 
XXV, XXVI, in connection with the problems illustrating 
the preparation of corporate statements, are suggestive of 
modifications that are good. 

§ 297. Balance Sheets 

Balance Sheet, December 31, 19.., 

Assets 
Current Assets: 
Cash $ 



Notes and Accounts Receivable. 
Inventories 



Deferred Charges to Operation : 
Prepaid Insurance, etc 



Plant Assets: 

Real Estate $. 

Machinery, Fixtures, etc 



*For further details, see "Accounting Practice and Procedure" by Dickinson, 
and "Auditing — Theory and Practice" by Montgomery. 



340 



REPORTS AND STATEMENTS 



Other Assets: 

Good-Will Patents, etc $. 



Liabilities 
Current Liabilities. : 

Notes Payable $ 

Accounts Payable 

Accrued Wages $. 



Fixed Liabilities : 

Bonded Debt. . , 

Reserves 



Excess of Assets 
(Or Net Worth) 

Capital Stock $. 

Surplus ( or Deficit) 



Comparative General Balance Sheet 

At December 31, 19.., and at December 31, 19.. 

December December Increases 
31, 19. . 31, 19. . Decreases* 
Assets and Deferred Debit Items: 
Capital Assets : 

Land $ $ $ 

Factory and Office Buildings 

Building Equipment 

Power Plant 

Machinery and Tools 

Experimental and Improvement 

( Plant 

Maintenance Plant 

Printing Plant 

Transportation Plant 

Furniture and Fixtures 

Trade-Marks and Patents 



Total Capital Assets $. 



^Decreases are shown in red. 



FORMS OF STATEMENTS 34I 

Comparative General Balance Sheet — Continued 

December December Increases 

31, 19.. 31, 19.. Decreases* 
Working and Trading Assets: 

Working : 

Goods in Process — Inventory $ $ $ 

Manufacturing Materials and Sup- 
plies — Inventory 

Materials for Repairs and Main- 
tenance — Inventory 

Scrap Material — Inventory 

Shipping Material — Inventory 

Coal, Oil, and Waste — Inventory 

Advertising Matter 

Stationery and Printing 



$• 
Trading: 



Finished Goods — Inventory. 



Total Working and Trading $. 



Total Capital and Working and 
Trading Assets $ $. $. 



Current Assets: 

Cash in Banks and in Office $ $ $. 

Special Deposits 

Notes Receivable 

Customers' Accounts Receivable 

Claims against Transportation Cos 

Advances to Employees 



Total Current Assets $ $ $. 



Deferred Debit Items : 

Fire Insurance Premiums, unex- 
pired portion $. 

Freight and Cartage Outward, ap- 
plicable to goods finished, ware- 
housed, and unsold 



Total Deferred Debit Items $ $ $. 



•Decreases are shown in red. 



g 4 2 REPORTS AND STATEMENTS 

Comparative- General Balance Sheet— Continued 

December December Increases 
31, 19. . 31, 19. . Decreases* 
Total Current Assets and Deferred 
Debit Items $ $ $ 



Total Assets and Deferred Debit 
Items $ $. 



Liabilities and Surplus." 
Capital Liabilities : 

Capital Stock Authorized, Issued 
and Outstanding $ $. 

Real Estate Bond and Mortgage 



Total Capital Liabilities $. 



Current Liabilities : 

Notes and Loans Payable $ $. 

Accounts Payable: 

(a) To Creditors 

(b) " Employees — Wages Ac- 

crued 

(c) ' Salesmen — Salaries, Com- 

missions and Expenses 

(d) " Employees — Profit Shar- 

ing Scheme 

(e) " Employees — Deposits for 

Use of Tools 

(f) " State— For Taxes 



Total Current Liabilities, 



Total Liabilities $ $. 



Surplus : 

(a) Appropriated: 

For Reserves for Claims 
against Transportation 

Companies $ $. 

For Reserves for Deprecia- 
tion of Physical Assets 



•Decreases are shown in red. 



FORMS OF STATEMENTS 343 

Comparative General Balance Sheet — Continued 

December December Increases 
31, 19.. 31, 91.. Decreases* 
For Possible Losses of Ac- 
counts Receivable 



Total Appropriated 

(b) Available for Dividends... 



Total Surplus. 



Total Liabilities and Surplus $ $ $. 



§ 298. Statements of Income and Profit and Loss 

Statement of Income and Profit & Loss 

For the Year Ended December 31, 19. . 

Sales $. 

Less Returns 



Net Sales $. 

Deductions from Sales: 

Allowances $ 

Outward Freight and Cartage 



Income from Sales $. 



Manufacturing Cost of Goods Sold : 

Purchases of Raw Materials $. 

Inward Freight and Cartage 



Add — Decrease in Inventory of Raw Material. . 



Direct Labor 

Superintendence 

Factory Office Salaries. . 
Heat, Light, and Power. 
Factory Supplies 



•Decreases shown in red. 



344 



REPORTS AND STATEMENTS 



Statement of Income and Profit & Loss — Continued 

Factory Expense 

Factory Repairs 

Depreciation of Operating Equipment 



$. 
Deduct — Increase in Inventory of Goods in 
Process 



Total Manufacturing Cost 

Add — Decrease in Inventory of Finished Goods 



Total Manufacturing Cost of Goods Sold. 



Gross Profit on Sales $. 

Selling Expense : 

Salaries of Sales Manager and Clerks $ 

Salaries of Salesmen 

Salesmen's Commissions 

Traveling Expense 

Advertising 



Selling Profit $. 

Administrative Expense : 

Salaries of Officers $ 

Salaries of Clerks 

Stationery and Printing 

Postage 

Telephone and Telegraph 

General Expense 



Net Profit on Sales — Income from Operations $. 

Other Income : 

Income from Securities $ 

Interest on Notes Receivable 

Cash Discount on Purchases 



Total Income 

Deductions from Income : 

Interest on Bond and Mortgage Payable $. . . 

Interest on Notes- Payable 

Cash Discount on Sales 

Insurance » 



FORMS OF STATEMENTS 345 

Statement of Income and Profit & Loss— Continued 
Taxes 



Net Income — Profit and Loss $. 

Profit and Loss Credits: 

Profit on Purchase of Consolidated Trading 

Company 6% Bonds $ 

Profit on Purchase of National Products Com- 
pany 6% Bonds 



Profit and Loss — Gross Surplus for the Period $. 

Profit and Loss Charges: 

Provision for Depreciation of Buildings $ 

Provision for Contingencies 



Profit and Loss for the Period $, 

Profit and Loss Surplus at Beginning of Period 



Profit and Loss Surplus Before Deducting Dividends $. 

Dividends Declared 



Profit and Loss Surplus, December 31, 19. 



Statement of Income and Profit and Loss 
For the Year Ended December 31, 19.. 

Income from Sales: 

Gross Sales $ 

Less Returns 



Net Sales $. 



Deductions from Sales : 
Allowances to Customers: 

On Sale Price $. 

On Damaged Goods 

Freight and Cartage Outward — on Sales 

Stable and Automobile -Expense — Proportion 

Applicable to Sales . 



Total Deductions from Sales $. 



Income from Sales. $. 



346 



REPORTS AND STATEMENTS 



Statement of Income and Profit & Loss — Continued 
Cost of Goods Sold: 

Manufacturing Cost of Goods Finished During the Period: 
Prime Cost: 
Materials and Supplies Consumed — Including 

Freight and Cartage thereon $ 

Productive Labor 

Total Prime Cost $ 

Manufacturing Overhead : 

Superintendence $ 

Unproductive Labor 

Heat, Light, and Power 

Factory Expense 

Repairs and Maintenance, Machinery and 
Tools 

Total Manufacturing Overhead $ 

General Factory Overhead: 

Salaries and Wages — Shipping Department. . $ 

Shipping Material Consumed 

Shipping Department Supplies 

Miscellaneous Shipping Expense 

Traveling Expense — Shipping Department 

Stationery and Printing Consumed by Factory 

Total General Factory Overhead $ 

Total Manufacturing Cost for the Period $ 

Deduct — Increase of Inventory of Goods in 
Process as between January i and Decem- 
ber 31, 19 



$■ 



Add — Decrease of Inventory of Goods in 
Process as between January 1 and Decem- 
ber 31, 19 



Manufacturing Cost of Goods Finished During 

the Period $. 

Inventory Adjustment: 
Deduct — Increase of Inventory of Finished 



FORMS OF STATEMENTS 

Statement of Income and Profit & Loss — Continued 
Goods as between January i and December 
31, 19.., after deduction therefrom of the 
value of goods distributed free, and used 
by salesmen 



347 



Add — Decrease of Inventory of Finished Goods 
as between January 1 and December 31, 
19. ., after deduction therefrom of the value 
of goods distributed free, and used by sales- 
men 

Manufacturing Cost of Goods Sold $. 

Additional Cost — Freight, Handling and Ware- 
housing of Raw Materials Consumed 

Total Cost of Goods Sold 

Gross Profit and Sales 

Selling Expense: 

Salaries of Selling Management $. 

Salaries, Commissions, and Expenses of Sales- 
men 

Advertising Expense 

Free Goods 

Traveling Expense of Sales Manager 

Premiums 

Stationery and Printing Consumed by Office 
of Sales Manager 

Special Inducements to Jobbers 

Salesmen's Samples used in demonstration 

Sundry Expense of Sales Office 

Total Selling Expense 



Selling Profit $. 

Administrative and General Expenses: 
Administrative : 

Office Salaries $ 

General Office Expenses and Supplies 

Telephone and Telegrams 

Legal Expense 



348 



REPORTS AND STATEMENTS 



Statement of Income and Profit & Loss — Continued 

Traveling Expense of Administrative Officers 

Postage Expense 

Stationery and Printing — Office 

Heat and Light — Office 

Miscellaneous 

$ 

General : 

Repairs and Maintenance of Buildings $ 

Experimental Expense — Processes and New 

Goods 

Experimental Expense — Machinery 

$ 

Total Administrative and General Expense 



Profit from Operations $. 

Additions to Income: 

Interest on Notes Receivable $ 

Sundry Sales of Materials and Empty Con- 
tainers 

Discounts Gained on Creditors' Accounts 

(Cash Discounts) 

Interest on Bank Balances 

Total Additions to Income 



Total $. 

Deductions from Income: 

Taxes, Licenses, and Fees $ 

Fire Protection 

Discounts Lost on Customers' Accounts (Cash 

Discounts) 

Interest and Discounts — Notes Payable 

Collection Fees and Other Bank Charges 

Total Deductions from Income 



Gross Profit and Income from Operating and Other Sources $. 

Extraordinary Losses of the Period: 
Frozen Goods $ 



FORMS OF STATEMENTS 349 

Statement of Income and Profit & Loss — Continued 

Accounts Receivable — Uncollectible 

Breakage of Carboys and Other Empty Con- 
tainers Returnable to Shippers 



Total Extraordinary Losses of the Period. 



Net Profit for the Year Ended December 31, 19 $. 

Reserved: 

For Depreciation of Physical Assets $ 

For Possible Losses of Accounts Receivable 

Total Reserved 



Profit and Loss Surplus at December 31, 19 $. 

Surplus at January 1, 19 $ 

Less Adjustments during the Period: 

Returned Sales of prior periods, and Frozen 
Goods sold in prior periods, the profit on 
which figures in the surplus as established 
at January 1, 19. ., including freight and 
all expenses paid by the Company on such 
returns 

Net Adjusted Surplus, January 1, 19 



Surplus at January 1, 19. . (as per Balance Sheet of this 
Company given in the foregoing) $. 



§ 299. Statement of Cash Receipts and Disbursements 

Statement of Cash Receipts and Disbursements 
For the Year Ended December 31, 19.. 
Debits — Cash Received: 

(1) From the Collection of Current Assets: 

Customers' Accounts $ 

Claims against Transportation Companies 1 

Notes and Loans Receivable, and Interest 
thereon $ 

(2) From the Sale of Working Assets : 

Materials and Supplies Sold to Employees $ 



350 REPORTS AND STATEMENTS 

Cash Receipts and Disbursements — Continued 
Carboys and Empty Containers 

(3) From the Incurrence of Liabilities: 

Notes and Loans Payable $ 

Deposits by Employees 

Credit Accounts of Officers 



(4) From Miscellaneous Sources : 

Fire Insurance Premiums Refunded $. 

Dividends on Mutual Fire Policies 

Refunds by Creditors, for overpayments 
and allowances not deductible from bills 



(5) Total Receipts for Period $. 

(6) Balance on Hand, January 1, 19 rf 



(7) Total Debits $. 



Credits — Cash Disbursed: 

(1) For Liabilities Liquidated: 

To Creditors $ 

" Employees — for Wages , 

" Banks for Loans and Notes 

" Mortgagee — for Reduction of Mort- 
gage $. 

(2) To Interest on Indebtedness 

(3) For Reduction of Credit Accounts of Officers 

(4) For Pre-Process Cost of Goods Manufactured: 

Freight and Cartage Inward and Handling Charge. 

(5) For Factory Overhead Expenses: 

Automobile Expense $ 

Warehouse Charges and Cartage 

General Expense of Factory 

Miscellaneous Shipping Expense 

(6) For Selling Expenses : 

Salaries and Commissions of Salesmen.. $ 

Advertising Expense 

Special Commissions to Jobbers 

(7) For General and Administration Expense : 

Salaries $ 



FORMS OF STATEMENTS 

Cash Receipts and Disbursements — Continued 

Postage Expense 

Telephone and Telegrams 

Traveling Expense of Officers 

Legal Expense 

Miscelaneous Expense 



351 



(8) Total Cash Disbursements for Period $. 

(9) Balance on Hand, December 31, 19 



(10) Total Credits $. 



CHAPTER XXV 

PREPARATION OF STATEMENTS— MANUFAC- 
TURING CORPORATION 

The object of this and the following chapter is to illus- 
trate with actual figures how the different periodic state- 
ments are made up, first for a manufacturing business and 
then for a trading business, and to show the different 
methods of arranging the items. A comparison of the 
operating statements and balance sheets will indicate dif- 
ferent methods of classification and arrangement, thus 
indicating that there is no ideal form that could be used in 
all cases. Accountants differ in their ideas of making state- 
ments, though in every case the net results would be the 
same. It will be noted that the statements of the Lake 
Manufacturing Company are arranged in account form, the 
debits and credits being on opposite sides ; while in the case 
of the Bryant-Chase Company a different order obtains, the 
debits being given first, followed immediately by the credits. 

§ 300. Trial Balance 

The following trial balance shows the balances of the 
various accounts of the Lake Manufacturing Company for 
the fiscal year ending December 31, 19 16: 

Lake Manufacturing Company 
Trial Balance, December 31, 19 16 

Cash $40,324.00 

Cash Deposit for Dividend No. 11 4,100.00 

Cash Deposit for Bond Interest 5,000.00 

352 



MANUFACTURING CORPORATION 



353 



Land 200,000.00 

Buildings 300,000.00 

Machinery 200,000.00 

Tools and Implements 40,430.00 

Horses, Wagons, and Harness 30,000.00 

Office Furniture 5,201.00 

Notes Receivable 25,812.00 

Accounts Receivable 163,374.00 

Sinking Fund 30,000.00 

Investment of Surplus 20,000.00 

Salesmen's Accounts — Advances on Salaries 1,960.00 

Organization Expenses Unapportioned 14,700.00 

Bond Discount Unamortized 12,000.00 

Dividend No. 11, 5%, authorized July 1^ 1916 45,000.00 

Good-Will 150,000.00 

Unsubscribed Stock 100,000.00 

Notes Payable $42,000.00 

Accounts Payable 103,561.00 

First Mortgage 5% Twenty- Year Bonds.... 200,000.00 

Special Accounts — Officers and Clerks 15,363.00 

Bond Interest Coupons Due 5,000.00 

Dividend No. n, Vouchers Outstanding.... 4,100.00 

Reserve for Bad Debts — less $1,940 written 

off 112.00 

Reserve for Depreciation — Buildings, 2^/2%. 5,000.00 

Reserve for Depreciation — Machinery, 6%.. 18,000.00 

Reserve for Depreciation — Horses, Wagons, 

etc., 10% 3,000.00 

Capital Stock, 10,000 shares at $100 1,000,000.00 

Sinking Fund Reserve 30,000.00 

Sales, less Returns and Allowances 1,250,550.00 

Rent of Part of Business Premises 500.00 

Inventory, December 31, 191 5 (Material 

$74,621 ; Finished Stock $30,000) 104,621.00 

Purchases 300,000.00 

Freight and Cartage Inbound 5,662.00 

Labor — Factory Pay-Rolls 600,400.00 

Salaries of Officers and Clerical Force 75,120.00 

Salaries of Salesmen 60,440.00 

Advertising 50,300.00 

Taxes Paid 4,020.00 

Insurance 2,600.00 

Bond Interest 10,000.00 



354 REPORTS AND STATEMENTS 

Interest and Discount 6,500.00 

Expenses — Stable 4,000.00 

Expenses — Office, Legal, and Unclassified... 25,750.00 

Maintenance — Repairs, Buildings, etc 26,942.00 

Profit and Loss, 1915 Surplus 77,070.00 



$2,754,256.00 $2,754,256.00 

Inventories, December 31, 1916: 

Finished Stock $160,560.00 

Materials and Work in Process 1 10,000.00 

Factory Pay-Rolls, Accrued but Not Paid 5,75o.oo 

Unexpired Insurance 912.00 

Interest Accrued on Investments 1,000.00 

Interest Earned on Sinking Fund 1,200.00 

From the foregoing trial balance and notations, it is 
possible to prepare a manufacturing account, a trading and 
profit and loss account, and a balance sheet, as of December 
31, 1916. The same reserves for depreciation are to be 
made as at the end of the preceding year. 10% is to be 
written off from the balance of organization expenses, and 
5% off of bond discount. 2% of notes and accounts re- 
ceivable is to be allowed as a provision against possible 
losses. A further appropriation of $30,000 is to be made to 
the sinking fund, the cash to be given to the trustee on 
January 2, 19 17. As a final balance, the profits available 
for distribution are to be shown as a credit balance to 
Undivided Profits account. 

Below the balance sheet proper, under the head "Contin- 
gent Liabilities," should be noted any obligations on which 
the company is contingently liable, such as discounted notes, 
and similar possible obligations. Contingent liabilities in- 
clude those on which the company is liable in a secondary 
way, the liability on which becomes absolute only in case of 
the failure of some one else involved to carry out his 
obligation. 



MANUFACTURING CORPORATION 



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358 REPORTS AND STATEMENTS 

§ 303. Balance Sheet 



Lake Manufac 
Balance Sheet at Close of 



Assets 

Current Assets: 

Cash on Hand $40,324.00 

Notes Receivable $25,812.00 

Accounts Receivable ' 163,374.00 189,186.00 

Finished Stock 160,560.00 

Materials and Work in Process 110,000.00 

Total Current Assets $500,070.00 

Special Funds : 
Sinking Fund with Trustee, including 

Earnings* $31,200.00 

Surplus Fund Investments 20,000.00 

Cash, Balance of Dividend No. 11 4,100.00 

Cash, Deposit for Bond Interest 5,000.00 60,300.00 

Fixed Assets : 

Land $200,000.00 

Buildings 300,000.00 

Machinery 200,000.00 

Tools and Implements 40,430.00 

Horses, Wagons, etc 30,000.00 

Office Furniture 5,201.00 

Total Fixed Assets 775,631.00 

Miscellaneous Assets: 

Good- Will $150,000.00 

Advances to Salesmen 1,960.00 

Insurance Unexpired 912.00 

Interest Accrued 1,000.00 

Bond Discount Unamortized 11,400.00 

Organization Expenses Unapportioned 13,230.00 178,502.00 



$1,514,503.00 






1 Another deposit of $30,000 due January 2, 191 71 



MANUFACTURING CORPORATION ^$9 



turing Company 

Business, December 31, 1916* 

Liabilities and Capital 
Current Liabilities: 

Notes Payable $42,000.00 

Accounts Payable 103,561.00 $145,561.00 

Special Accounts: 

Officers and Clerks 15,363.00 

Bond Interest Coupons Due 5,000.00 

Dividend No. 11, Vouchers Outstanding 4,100.00 

Wages Accrued, Factory Pay-Roll 5,750.00 

Total Current Liabilities $175,774.00 

Fixed Liabilities: 

First Mortgage 5% Twenty-Year Bonds 200,000.00 

Reserve Accounts : 

For Sinking Fund $60,000.00 

Interest Earned on above i,200.oo>. 

For Bad Debts 3,896.00 

For Depreciation of: 

Buildings 12,500.00 

Machinery 30,000.00 

Horses, Wagons, etc 6,000.00 115,596.00 

Total Liabilities $489,370.00 

Capital and Profits: 
Capital Stock $1,000,000.00 

Less Stock Unsubscribed 100,000.00 

* 

Stock Outstanding $900,000.00 

Surplus from last year 77,070.00 

Undivided Profits for 1916 48,063.00 

Net Worth of Company 1,025,133.00 

$1,514,503.00 



3<5° 



REPORTS AND STATEMENTS 



§ 304. Closing Entries in Journal 

The following journal entries are required to adjust and 
close the various ledger accounts of the Lake Manufacturing 
Company which have been affected by the business opera- 
tions of the year. Two divisions of the nominal accounts 
are made — the Manufacturing account, and the Trading 
and Profit and Loss account in which the various accounts 
are summarized. 

December 31, 1916 

Manufacturing Account . $1,076,433 

To Inventory of Material, January 

1, 1916 $74,621 

" Purchases 390,000 

" Freight and Cartage 5,662 

" Labor — Factory Pay-Roils 600,400 

" Labor — Accrued 5>75° 

To establish the Manufacturing account 
by transferring the above accounts 
thereto. 



Materials and Work in Process, December 

31, 1916.... o. $110,000 

To Manufacturing Account $110,000 

To enter inventory of material and work 
in process on the accounts stated, in 
order to determine prime cost of goods 
used. 



Manufacturing Account . $52,150 

To Maintenance Charges $26,942 

" Taxes 4,020 

" Insurance 1,688 

" Reserve for Depreciation of 

Buildings 7>5°° 

" Reserve for Depreciation of 

Machinery 12,000 



MANUFACTURING CORPORATION 361 

To close the above manufacturing costs 
into Manufacturing account. (The 
unexpired insurance is entered di- 
rectly to the account and not posted 
through the journal.) 



Trading and Profit and Loss Account $1,048,583 

To Inventory of Finished Stock, 

January 1, 1916 $30,000 

" Manufacturing Account 1,018,583 

To establish the Trading and Profit and 
Loss account by transferring thereto 
the inventory of finished goods on 
hand at the beginning of the year, 
and the manufactured output for 
1916. 

Sales, Net $1,250,550 

Inventory of Finished Stock, December 31, 

1916 160,560 

To Trading and Profit and Loss 

Account $1,41 1,1 10 

To close Sales account into Trading 
account and to establish inventory of 
finished goods as at the end of the 
year. 



Trading and Profit and Loss account $117,740 

To Salaries of Salesmen $60,440 

" Reserve for Depreciation of 

Horses, Wagons, etc 3,000 

" Stable Expenses 4,000 

" Advertising 50,300 

To close the various selling expenses 
into Profit and Loss account. 

Trading and Profit and Loss account $123,224 

To Salaries — Office $75,120 

" Bond Interest 10,000 



362 



REPORTS AND STATEMENTS 



To Interest and Discount 6,500 

" Expenses — Office, Legal and Un- 
classified 2 5>75° 

" Reserve for Bad Debts 3,784 

" Organization Expenses 1,47° 

" Bond Discount 600 

To close the above general administra- 
tion charges into Profit and Loss, and 
to write off 2% for bad debts, 10% 
for organization expenses, and 5% for 
bond discount. 



Sublease of Premises $500 

Interest Accrued on Investments 1,000 

To Profit and Loss $1,500 

To close miscellaneous income accounts 
into Profit and Loss. 

Trading and Profit and Loss $123,063 

To Undivided Profits $123/363 

To close Profit and Loss account and 
transfer the net profit of $123,063 to 
the Undivided Profits account. 

Undivided Profits : $75,000 

To Dividend No. 11, July 1, 1916... $45,000 

n Sinking Fund Reserve ^ 30,000 

To close interim dividend account and 
to appropriate $30,000 to the sinking 
fund reserve. 

This completes the closing entries. It is apparent that, 
instead of grouping the items as shown, further subdivisions 
could have been made. More detailed explanations of the 
journal entries might be advantageous, but it will be seen 
that certain explanations are made in the statements them- 
selves as an aid to a clearer understanding of them. Bad 
debts written of! during the year, amounting to $1,940, 



MANUFACTURING CORPORATION 363 

were charged directly to the Reserve for Bad Debts account 
established at the close of 191 5. 

§ 3°5« Comments on Closing of Lake Manufacturing Com- 
pany's Books 

The balance sheet exhibits the various assets and liabili- 
ties of the company, conveniently grouped and classified. 
The various reserves are placed among the liabilities as 
negatives to the corresponding assets. They are frequently 
placed on the debit side as deductions from the assets. The 
sinking fund reserve is an exception, since it remains on the 
credit side as profits which eventually revert to surplus. 
The balance sheet should be prepared so as to exhibit the 
affairs of the company in a clear, unmistakable way, the 
form being varied to meet the needs of the particular 
business. 

The year's operating results are set forth in the Manu- 
facturing account and the Trading and Profit and Loss ac- 
count. The first statement exhibits the manufacturing 
output for the year after allowing for work in process. The 
balance is carried to the profit and loss statement as the cost 
of finished stock. The Profit and Loss account includes the 
income from other sources, also the various selling and 
administrative expenses and the resultant net profit. 

The Undivided Profits account contains the profits of the 
year remaining unapportioned and available for dividends. 

It is apparent that the Lake Manufacturing Company 
does not have a complete cost system. If it had, the book 
inventory of material, work in process, and finished stock 
would be available. As the matter stands, physical inven- 
tories have to be taken in order to determine these values. 

Bond interest coupons are payable January 1, 19 17, and 
$5,000 has already been deposited with the fiscal agent for 
their payment. A like amount has been charged against 



3^4 



REPORTS AND STATEMENTS 



Profit and Loss and credited to Bond Coupons Due. Coun- 
teracting entries are required as the coupons are paid and 
turned over to the company. 

When the semiannual dividend of $45,000 was declared, 
a charge was made to Dividend account and a credit to 
Dividends Payable. When the voucher checks were issued, 
Dividends Payable account was debited and Dividend 
Vouchers credited ; cash entries not having been made until 
the vouchers were returned from the bank. As a result, the 
dividend vouchers still unpaid are clearly shown, which in 
this case amount to $4,100. 

Allowance has been made for depreciation of properties 
and for possible losses on bad debts. The sinking fund 
trustee already has $31,200 in his possession, this including 
$1,200 of accumulated interest. Another appropriation of 
$30,000 must be turned over to the trustee on January 2, 
19 1 7, the Sinking Fund Reserve account already having 
been credited with this amount. 

Surplus profits for the year, amounting to $48,063, still 
remain on hand, after deducting the sinking fund reserve 
and the interim dividend of July 1. Another semiannual 
dividend will no doubt be declared, resulting in a further 
decrease of $45,000. Surplus funds, amounting to $20,000, 
have been set aside and invested in securities to be available 
when necessity arises. 

Ample deductions have been made from organization 
expenses and from bond discount, both being amortized over 
a term of years. 

Among the assets the special funds amount to $60,300. 
These are appropriated for special purposes and set apart to 
distinguish them from other available funds of the business. 



CHAPTER XXVI 

PREPARATION OF STATEMENTS— TRADING 
CORPORATION 

§ 306. Trial Balance 

The following trial balance of the Bryant-Chase Com- 
pany, dealers in general merchandise, is as of December 31, 
1916: 

Bryant-Chase Company 
Trial Balance, December 31, 1916 

Cash $17,800.00 

Notes Receivable 28,520.00 

Accounts Receivable 93,410.00 

Stock Subscriptions 50,000.00 

Investments 30,000.00 

Treasury Stock 30,000.00 

Real Estate, Buildings, and Machinery 210,000.00 

Furniture and Fixtures 34,600.00 

Delivery Equipment 14,500.00 

Consigned Goods to Agent, Not Sold 2,800.00 

Charges on Consigned Goods Not Sold 80.00 

Notes Payable $38,800.00 

Accounts Payable 66,550.00 

Reserve for Depreciation 3,140.00 

Reserve for Bad Debts 2,100.00 

Capital Stock Outstanding 250,000.00 

Capital Stock Subscribed 50,000.00 

Working Capital Donated 30,000.00 

Sales , 390,000 00 « 

Goods Consigned to Agents, at Cost 14,600.00 

Subrent of Warehouse 450.00 

Profit on Sale of City Property 1,250.00 

Profit on Consignment Sales 2,340.00 

Interest on Investments 200.00 

Discount on Purchases 1,990.00 

Rebates and Allowances on Purchases 1,130.00 

365 



366 REPORTS AND STATEMENTS 

Trial Balance — Continued 

Freight Inbound 5,150.00 . 

Rebates and Allowances on Sales 1,580.00 - 

Inventory, December 31, 1915 86,000.00 

Purchases 210,000.00 

Wages to Clerks and Packers 16,600.00- 

Salaries to Officers and Office Help 8,400.00 - 

Salaries and Expenses of Salesmen 8,890.00. 

Office Expenses 4,600.00 

General Expenses 3,400.00 

Stable and Delivery Expenses 2,300.00. 

Rent of Warehouse 2,500.00 

Commissions Paid 2,800.00 - 

Discount on Sales 3,460.00 v 

Freight Outbound 1,840.00 ■ 

Cartage 350.00 • 

Warehouse Expenses 630.00 - 

Light and Heat 540.00 - 

Repairs 1,120.00 

Interest on Bank Charges 290.00 

Interest on Cancelled Mortgage 100.00 

Insurance and Taxes 320.00 

Donations 230.00 

Bad Debts Written Off 2,050.00 

Loss on Sale of Securities 320.00 

Undivided Profits on December 31, 1915 20,630.00 

$873,180.00 $873,180.00 



At this time, allow $3,000 additional as a reserve for 
bad debts, and $10,660 additional as a reserve for deprecia- 
tion. Salaries are overpaid by $200. Accrued interest on 
investments, $850. The directors have, December 31, 19 16, 
declared a dividend of 20% (dividend No. 2) on the out- 
standing capital stock, payable January 25, 19 17. 

In closing the books the following statements are re- 
quired : 

1. Trading and profit and loss statement for the year. 

2. Balance sheet drawn up in suitable grouping. 

3. Percentage statement based on the net sales. 



3^7 



TRADING CORPORATION 

§ 307. Trading and Profit and Loss Statement 
Bryant-Chase Company 
Trading and Profit & Loss Statement 
For Year Ended December 31, 1916 

Earnings 

Gross Sales $390,000.00 

Less Allowances and Rebates 1,580.00 $388,420.00 

Inventory, January 1, 1916 $86,000.00 

Purchases $210,000.00 

Freight Inward 3,150.00 

$213,150.00 
Less Allowances and Rebates 1,130.00 

$212,020.00 
Less Goods Consigned to Agents, at 

cost 14,600.00 197,420.00 

$283,420.00 
Less Inventory, December 31, 1916 54,000.00 " 

Cost of Goods Sold 229,420.00 

Gross Profit on Trading $159,000.00 

Discount on Purchases $1,990.00 

Subrent of Warehouse 450.00 

Profit on Consigned Goods 2,340.00 4,780.00 

Gross Business Profit $163,780.00 

Expenditures 
Selling Expenses : 
Salaries and Expenses of Salesmen $8,890.00 

Wages to Clerks and Packers 16,600.00 

Commissions 2,800.00 

Discount on Sales 3,460.00 

Warehouse Rent 2,500.00 

Warehouse Expenses 630.00 

Stable and Delivery Expenses 2,300.00 

F# eight Outward 1,840.00 $39,020.00 



368 REPORTS AND STATEMENTS 

Trading and Profit & Loss Statement — Continued 
General and Administrative Expenses: 

Cartage $350.00 

Salaries — Office 8,200.00 

Repairs 1,120.00 

Interest on Bank Charges 290.00 

Interest on Cancelled Mortgage 100.00 

Insurance and Taxes 320.00 

Donations 230.00 

Office Expense 4,600.00 

General Expense 3,400.00 

Light and Heat 540.00 

Reserve for Bad Debts 3,000.00 

Reserve for Depreciation 10,660.00 32,810.00 

Total Expenses . 71,830.00 

Net Profit of Business for Year. $91,950.00 

Other Profit and Loss Items : 

Profit on Sale of City Property $1,250.00 

Interest on Investments 200.00 

Interest on Investments, Accrued 850.00 

$2,300.00 
Deduct : 
Loss on Sale of Securities 320.00 

Profit Outside of Business 1,980.00 

Net Profit for Year 1916 $93,930.00 

§ 308. Balance Sheet 

Bryant-Chase Company 
Balance Sheet, as of December 31, 1916 

Current Assets: Assets 

Cash $17,800.00 

Notes Receivable 28,520.00 

Salaries Overpaid 200.00 $46,520.00 

Accounts Receivable $93,410.00 

Less Reserve for Bad Debts 3,050.00 90,360.00 

$136,880.00 



TRADING CORPORATION 369 

Balance Sheet — Continued 
Investments : 

Stocks and Bonds of Other Companies 30,000.00 

Inventories : 

Merchandise $54,000.00 

Goods in Hands of Agents, including Freight 
Charges 2,880.00 56,880.00 

Accrued Items: 

Accrued Interest on Investments 850.00 

Subscriptions to Stock 50,000.00 

Treasury Stock 30,000.00 

Fixed Assets: 

Real Estate, Buildings, and Machinery $210,000.00 

Furniture and Fixtures 34,600.00 

Delivery Equipment 14,500.00 

$259,100.00 
Less Reserve for Depreciation 13,800.00 245,300.00 

Total Assets $549,910.00 



Liabilities and Capital 

Current Liabilities: 

Notes Payable $38,800.00 

Accounts Payable 66,550.00 

Dividend No. 2, payable January 25, 1917 50,000.00 $155,350.00 

Capital and Undivided Profits: 

Capital Stock Outstanding $250,000.00 

Capital Stock Subscribed 50,000.00 

Working Capital Donated 30,000.00 

Undivided Profits, December 31, 

1915 20,630.00 

Net Profit for 1916 93,930-00 $444560.00 

Less Dividend No. 2, payable Jan- 
uary 25, 1917 50,000.00 394,560.00 

Company's Net Worth $549,910.00 



370 



REPORTS AND STATEMENTS 

Statement of Percentages 

For Year Ended December 31, 1916 

Based on Net Sales 
Net Sales $388,420.00 equals 100% 



Gross Profit and Trading 159,000.00 

Other Income and Profits 6,760.00 

Net Profit 93,930.00 

Cost of Sales 229,420.00 

Selling Expenses 39,020.00 

General and Administrative Expenses.... 32,810.00 



40.935% 
1.740% 
24.182% 
59.065% 
10.046% 
8-447% 



§ 309. Closing Journal Entries 

The following entries are made on the assumption that 
a trading or merchandise account is in use and that the be- 
ginning and closing inventories were entered therein without 
journal entries. Instead of posting the totals of the groups 
to the Trading or Profit and Loss account, it is better to 
carry the separate amounts. In this way the various items 
are shown in the Trading account and in the Profit and Loss 
account, making it easier to compile therefrom the trading 
and profit and loss statements. 

Sales Account $390,000 

Discount on Purchases 1,990 

Subrent of Warehouse 450 

Profit on Consigned Goods 2,340 

Goods Consigned to Agents 14,600 

Rebates and Allowances on Purchases 1,130 

To Trading Account $410,510 

To close above accounts into Trading 
account. 

Trading Account $214,730 

To Purchases $210,000 

" Freight Inward 3^50 

" Allowances and Rebates on Sales 1,580 

To close above accounts into Trading 
account. 



TRADING CORPORATION 



371 



Trading Account $163,780 

To Profit and Loss $163,780 

To close gross trading profit into Profit 
and Loss account. 

Profit and Loss $39,020 

To Salaries and Expenses of Sales- 
men $8,890 

" Wages to Clerks and Packers... 16,600 

' Commissions 2,800 

n Discount on Sales 3,460 

" Warehouse Rent 2,500 

" Warehouse Expenses 630 

" Stable and Delivery Expenses. . . 2,300 

" Freight Outward 1,840 

To close the above selling expenses into 
Profit and Loss account. 

Profit and Loss $32,810 

To Cartage $350 

" Salaries — Office 8,200 

" Repairs 1,120 

" Interest on Bank Charges 290 

" Interest on Cancelled Mortgage 100 

3J Insurance and Taxes 320 

" Donations 230 

" Office Expense 4,600 

" General Expense 3,400 

91 Light and Heat 540 

K Reserve for Bad Debts 3,000 

" Reserve for Depreciation 10,660 

To close the above general and admin- 
istrative expenses into Profit and Loss 
account. 

Interest Accrued on Investments $850 

To Interest on Investments $850 

To record accrued interest on invest- 
ments. 



372 REPORTS AND STATEMENTS 

City Property $1,250 

Interest on Investments 1,050 

To Profit and Loss $2,300 

To close the above profits into Profit 
and Loss account. 

Profit and Loss $320 

To Securities $320 

For loss on sale of securities closed into 
Profit and Loss account. 

Profit and Loss $93,93° 

To Undivided Profits $93,93° 

To close net profit for year into Undi- 
vided Profits account, adding it to the 
former balance of $20,630. 

Undivided Profits $50,000 

To Dividend No. 2 $50,000 

To record Dividend No. 2 declared by 
the board of directors December 31, 
1916, being 20% of the outstanding 
capital stock. 

There are, of course, variations of these journal entries 
that under other conditions may be preferable. The ar- 
rangement and allocation of items in the trading and profit 
and loss statement might, and frequently would, be changed. 
The final net profit is practically the same in every case. 

§310. Comments on Closing of Bryant-Chase Company's 
Books 

The manner of closing the books for a trading corpora- 
tion does not differ from that of the manufacturing cor- 
poration. 

Attention is called to the accounts peculiar to corpora- 
tions, such as subscriptions to Stock, Treasury Stock, Capi- 
tal Stock, Capital Stock Subscribed, and Working Capital 



TRADING CORPORATION 



373 



Donated. These are discussed in detail in Chapter VI, 
''Distinctive Corporate Accounts." 

It will be seen that the form of statement differs slightly 
from that of the Lake Manufacturing Company, preceding. 
This form is used very extensively by large corporations, 
and has met with general approval from accountants. 

The balance sheet shows a different division of items 
from that of the Lake Manufacturing Company, simply to 
indicate the variation in arrangement frequently found in 
practice. There is no one form that is considered better 
than all others. 

The dividend is deducted from profits and credited to 
Dividend account, but this is shown only in the balance 
sheet ; it differs slightly from the preceding form. The divi- 
dend is not yet payable, but when due the required entries 
will be made. The percentage statement is brief but shows 
the manner of setting forth such information. It may be 
elaborated and extended in any way thought desirable. It 
is of inestimable value in presenting information pertaining 
to the rise and fall of results in comparison with previous 
years. 



CHAPTER XXVII 

CORPORATE REPORTS 

§311. Special Reports 

In the preceding chapters the discussion has been devoted 
to the reports and statements as rendered by the accounting 
department to the corporate officials. In this chapter an 
attempt will be made to treat briefly the reports as rendered 
by the officials and the directors to the stockholders, to the 
public, and to governmental bodies. The scope and content 
of the reports as outlined are necessarily suggestive but 
cover in general practically all the important points which 
they usually take up, 

§ 312. Reports to Stockholders 

At the annual meeting, it is customary for the directors 
to give an account of their stewardship for the preceding 
year, through reports presented by their elected officers. 
The character of such reports depends upon the size of the 
company, the nature of the business, and the amount of 
information which it is wise to disclose. It is obvious that in 
a small corporation, where the stockholders are in close 
touch with the management and the business, a report, if 
made at all, would be merely a brief recital of facts. But in 
the case of large industrial and public service corporations 
where the stock is in many hands, it is the practice to 
prepare an exhaustive annual report which is printed and 
distributed to the stockholders. 

Special reports from officers and committees may be 
called for at any meeting of stockholders. 

374 



CORPORATE REPORTS 375 

§ 313. Reports of Officers and Committees 

The following reports may be required at the annual 
meeting, though it is seldom that all of them will be called 
for at any one meeting. 

1. Committee Reports. Under this head come the re- 
ports of the various standing committees authorized to take 
charge of certain parts of the business, as the "Executive 
Committee" and the "Finance Committee," and of any 
special committees appointed to act on certain questions or 
in certain matters. 

2. Auditor's Report. This report is usually merged 
into, and becomes part of, the president's or treasurer's 
report, as its details might well appear in either of these 
other reports. All accounts and balance sheet items are, in 
the larger corporations, audited and passed upon by a pro- 
fessional accountant before they are published or presented 
to the annual meeting. 

3. General Manager's Report. Gives a detailed review 
of the general manager's conduct of the business during the 
year. This report is generally transmitted to the president 
and through him to the stockholders, either as part of the 
president's report or in separate form. It is frequently 
known as the superintendent's report. 

4. Treasurer's Report. Contains usually a cash state- 
ment for the year, statement of earnings and expenses, a 
general balance sheet, etc. The treasurer's report is fre- 
quently incorporated in the president's report. 

5. President's Report. Reviews the business of the pre- 
ceding year and sets forth the plans proposed for the coming 
year. This report usually includes a statement of the gross 
business done, the net earnings, improvements made, condi- 
tion of the finances, and the company's property generally, 
and any other items of interest not covered by other re- 
ports. 



376 REPORTS AND STATEMENTS 

§ 314. Committee Reports 

In the larger corporations there are usually one or more 
standing committees appointed from the board of directors, 
such as the executive committee which exercises the general 
authority of the board in the interim between its meetings, 
and the finance committee which has general supervision of 
the financial affairs of the company. The standing commit- 
tees do not usually report to the stockholders, their reports 
being made to the board of directors and the matters under 
their supervision being usually covered by the president's 
and the treasurer's reports respectively. 

Special committees of stockholders are frequently ap- 
pointed in both large and small corporations. The duties of 
these special committees are to investigate and report or act 
upon a special matter assigned them. Where such matters 
are important or urgent, special meetings of the stock- 
holders might be called to hear their reports ; but otherwise 
these committees would report to the stockholders at the 
annual meeting. 

There is no special form for committee reports. A clear 
statement of what they have accomplished, addressed to the 
stockholders or the directors as the case may be, and signed 
by the members of the committee or by the chairman for the 
committee, is all that is required. 

§ 315. Auditor's Report 

The by-laws of a corporation frequently make provision 
for periodical audits by professional accountants. In some 
cases auditing committees are appointed by the stockholders 
or the board of directors to pass upon the books and ac- 
counts of the corporation, either independently or in con- 
junction with professional auditors. In no case, however, 
should an audit made by a committee of stockholders or 
directors, be considered an audit in the true sense of the 



CORPORATE REPORTS 377 

word. An effective audit requires an examination of the 
books of account, of the cash, securities, inventory, calcula- 
tions, etc. ; and this necessitates expert work of an accu- 
rate, painstaking nature, which can be given only by a 
professional auditor. 

A monthly or quarterly audit or inspection of the 
accounts by a committee of directors is often made and is to 
be strongly commended; but the directors are not likely to 
take the time, or give the effort, or possess the expert knowl- 
edge necessary for a really effective audit. Besides this, 
they cannot always be depended upon to expose or to disap- 
prove of questionable occurrences which have taken place 
during their period of office and perhaps with their knowl- 
edge and concurrence, and it is quite apparent that such 
audits are not to be given the same weight as would be given 
the audit of a public accountant. 

A complete audit should review all of the business opera- 
tions of the year ; but, since in many cases this requires more 
time and expense than is thought expedient, an audit is 
sometimes made in which the examination is restricted to 
the more important items and accounts. In such cases sum- 
maries are compiled, results proved, certain entries vouched, 
cash inspected, bank balances proved, and perhaps an in- 
spection made of certain items or block of entries through- 
out the period under review. While a partial audit of this 
kind is not thoroughly satisfactory, it is frequently deemed 
sufficient by the corporate officials. In making either a par- 
tial or a complete audit, the auditor is expected' to see that 
the books present the true condition of the corporate busi- 
ness ; and that the profit and loss statement and balance sheet 
taken therefrom exhibit, properly arranged, the true results 
of business operations for the period under review. The 
auditor is, as a rule, engaged by the directors and reports 
to them, though not infrequently he is employed by the 



378 REPORTS AND STATEMENTS 

stockholders, in which case his report would, of course, go 
to the stockholders. In either case his report must be un- 
biased and prepared for the benefit of all concerned. As 
stated, the auditor's report is frequently utilized for, and 
more or less completely incorporated in, the reports of the 
president and the treasurer. 

The audit report for a large corporation may include the 
following : 

1. Statement of earnings and operating expenses. This 
is frequently made in comparative form to show the varia- 
tion of current income and expenses from those of previous 
years. 

2. Balance sheet. This shows the assets and liabilities 
of the company properly classified, on the date of closing. 
It also is frequently given in comparative form. 

3. Schedules and statements. These give the support- 
ing details and analysis of the results given in the balance 
sheet and the statement of earnings and operating expenses. 

4. Percentage exhibit. By this exhibit in comparative 
form, the income, and the operating and administrative 
expenses based on the sales are shown in comparative form. 
Such comparisons of amounts can be most readily made by 
means of percentages. 

5. Auditor's certificate. This is a brief certificate cer- 
tifying to the accuracy of the exhibits and statements. 

6. Auditor's general report or letter of explanation. 
This may be very brief or considerably extended, as the 
occasion demands. It may contain suggestions or recom- 
mendations pertaining to the books and accounts if such are 
deemed advisable or necessary.* 

In some cases the auditor's report is merely a certificate 
of the correctness of the books and accounts, or of the 



*For an exhaustive discussion of audits, see "Auditing — Theory and Practice" 
by Robert H. Montgomery. 



CORPORATE REPORTS 



379 



financial statement made to the stockholders, given after an 
examination of the books. Of this general character is the 
auditor's certificate which appears in connection with the 
annual report to stockholders of the United States Steel 
Corporation. This certificate is as follows : 

Certificate of Auditors 

New York, March 8, 1916. 
To the Stockholders of the United States Steel Corporation : 

We have examined the books of the U. S. Steel Corporation and 
Subsidiary Companies for the year ending December 31, 1915, and 
certify that the Balance Sheet at that date and the Relative Income 
Account are correctly prepared therefrom. 

During the year only actual additions and extensions have been 
charged to Property Account, and the provision made for depreciation 
and extinguishment is, in our opinion, fair and reasonable. The item 
of Deferred Charges represents expenditures reasonably and properly 
carried forward to operations in subsequent years. 

The valuation of stocks on hand, as shown by inventories certified 
by the responsible officials, have been carefully and accurately made 
at approximate cost. Full provision has been made for bad and 
doubtful accounts receivable and for all ascertainable liabilities. 

We have verified the cash and securities by actual inspection or 
by certificates from the Depositaries, and are of opinion that the 
Marketable Bonds and Stocks included in Current Assets are worth 
the value at which they are stated in the Balance Sheet. 

We certify that in our opinion the Balance Sheet is properly 
drawn up so as to show the financial position of the Corporation and 
Subsidiary Companies on December 31, 191 5, and the Relative Income 
Account is a fair and correct statement of the net earnings for the 
fiscal year ending at that date. 

Price, Waterhouse & Co. 

§316. General Manager's Report 

The general manager's or superintendent's report will 
give the important details of his work for the preceding 
year. It is but seldom that such a report is made direct to 
the stockholders. The usual course is for the manager or 
superintendent to hand his report to the president, who may 



380 REPORTS AND STATEMENTS 

incorporate it bodily in his report or make such extracts 
from it as he thinks will be of ir °rest to fr~ s f 1 ■ -J 1 •* of 
the company. Jj ~ 

§ 317. Treasurer's Report 

In many corporations the treasurer makes no inde- 
pendent report, the president's report covering the general 
affairs and conditions of the corporation together with its 
finances and plans for the future. This is true, for instance, 
of the United States Steel Corporation, where but one 
formal report — that of the chairman of the board — is made 
to the stockholders. In perhaps the majority of cases, how- 
ever, the treasurer makes his own report to the stockholders, 
covering in it such details of the financial affairs of the 
corporation as the directors deem it expedient for the 
stockholders to know; or, to express it otherwise, all such 
financial details as will be of interest to the stockholders, 
the publication of which will not result in injury to the 
company's business. 

Where but one formal report is made to the stock- 
holders and this report is made by the president, the treas- 
urer or the treasurer's department will, of course, supply 
the president with material for the financial portion of his 
statement. In any case, the two officials should work in 
sufficiently close touch to prevent any serious overlapping 
of their reports. 

The treasurer's report may be informal, merely giving 
the general results of the year's work ; or it may be a more 
or less detailed statement of the company's financial condi- 
tion, or may take the form of a complete balance sheet and 
profit and loss statement. The following from the annual 
report of the United Fruit Company shows the treasurer's 
introduction to the detailed exhibits, thus giving an idea as 
to the scope of the complete report. 






CORPORATE REPORTS 381 

Treasurer's Report 

To - — V w-r AND Board > Directors 
" *'* 01 '" • • ipany: 

I hand you herewiu merits covering the operations of the 

company for the fiscal year ;nded September 30, 1915, together with 
reports showing its financial condition on that date, viz. : 
Income Account 
Balance Sheet 

Cost of Plantations and Equipment 
Live Stock 

Area of Owned and Leased Lands 
Area of Cultivations 
Railways 

Steamship Service 
Insurance Fund 

Ch-arles A. Hubbard, 

Treasurer 
Boston, December 3, 1915. 

§ 318. President's Report 

The president's report is usually the most important of 
those made to the stockholders at the annual meeting. In 
many cases it is the only formal report. Its contents will 
vary with the conditions. Where it is the only report, it 
will cover both the general and financial conditions of the 
company, as well as any special conditions that are of 
interest to the stockholders. 

The following report is brief but satisfactory. It 
prefaces a formal balance sheet and income report, and with 
these constitutes the entire annual report to the stock- 
holders. 

To the Stockholders of the 

American Coal Products Company: 

The Directors herewith submit for the information of the Stock- 
holders the following financial statements covering the fiscal year 
ended December 31, 1915 : 

Against operations for the year 191 5 we have written off a suf- 
ficient proportion of the cost of our new plants to bring their capital- 



382 



REPORTS AND STATEMENTS 



ization down to a peace basis. We also instructed all of our subsid- 
iary companies, in making their returns for the year, to charge off 
doubtful items. 

Upon our regular profit-sharing plans and special compensation 
to all of our wage earners we have provided out of the earnings of the 
year for the distribution of approximately $550,000, partly in cash and 
partly in stock. Every employee of the Company has received some 
definite benefit from its prosperity. 

After deducting the above items the net profit for the year 
amounts to $2,902,236.30 

Deducting 7% cash dividends on Preferred Stock... 175,000.00 

Leaves ^2,727,236.30 

This has been apportioned by the Directors as 
follows : 

Dividends on Common Stock : 

In Cash, 7% $761,932.50 

In Common Stock, 5% 538,000.00 

Reserves 420,000.00 

Surplus 1,007,303.80 $2,727,236.30 

The excess of current assets over current liabili- 
ties has increased during the year by $3,389,727.31 

and now stands at $8,245,776.93 

The $2,000,000 of notes outstanding a year ago have been paid by 
an issue of approximately the same amount of Preferred Stock. The 
Company has now no obligations at any bank, and $900,000 in market- 
able securities in excess of ordinary needs. 

The name of the American Coal Products Company has been 
changed to "The Barrett Company" with a similar amount of stock as 
the American Coal Products Company, and stock certificates are to be 
exchanged, share for share, in the immediate future, notice of which 
will be sent to the stockholders shortly. 

Appended hereto are Consolidated Income Account for the year 
1915 and Comparative Consolidated Balance Sheet as at December 31, 
1915 and 1914.* 

William Hamlin Childs, 

President 

March 1, 1916 

The only formal report presented at the annual meeting 
of the stockholders of the United States Steel Corporation is 



•These statements have been omitted. 



CORPORATE REPORTS 383 

a report from the board of directors signed by the chair- 
man of the board. This corresponds to the president's 
report in other corporations. The report is very compre- 
hensive, covering everything of interest to the stockholders 
that may properly be disclosed. The heading of this report 
and a brief statement of the matters discussed appears 
below. 

Fourteenth Annual Report 

to Stockholders of 

United States Steel Corporation 

Office of United States Steel Corporation, 
51 Newark Street, Hoboken, New Jersey, 
March 14, 1916. 
To the Stockholders: 

The Board of Directors submits herewith a combined report of 
the operations and affairs of the United States Steel Corporation and 
Subsidiary Companies for the fiscal year which ended December 31, 
1915, together with a statement of the condition of the finances and 
property at the close of that year. 

The report covers : 

1. Summary of income for the year. 

2. Summary of surplus account. 

3. Comparative income for two years — 19 14 and 

I9I5- 

4. Maintenance, renewal, and extraordinary replace- 

ments. 

5. Bond sinking, depreciation, and extraordinary 

replacement funds. 

6. Summary of depreciation provided from gross 

earnings. 

7. Trustee's account of bond sinking funds. 

8. Capital stock, bonded debenture, and mortgage 

debt. 



384 REPORTS AND STATEMENTS 

9. Purchase money obligations, special loans, and 
notes payable. 

10. Summary of inventories. 

1 1. Comparative summary of production for two years 

— 1914 and 1915. 

12. Summary of capital expenditure. 

13. Employees and pay-rolls. 

14. Volume of business. 

15. Balance sheet, statements of accounts, and sta- 

tistics. 

16. Comparative general summary of business for two 

years — 1914 and 191 5. 

17. General information. 

The report is followed by a consolidated general balance 
sheet as of December 31, 191 5, together with the consoli- 
dated income account and general financial statement of all 
properties. 

The correctness of the financial details of this report is 
certified to by a prominent firm of accountants, the form of 
this certificate appearing in § 315. 

§ 319. Statutory Corporation Reports 

On account of the very great diversity found in the 
corporation reports required by the various states, no 
specific discussion of these reports is possible here. All 
that can be given is a general reference to the reports 
usually required, the details of which in each state must be 
found by reference to the authorities by which they are 
prescribed. 

In at least one-half of all the states of the Union, domes- 
tic corporations are required to pay an annual tax on the 
amount of capital stock outstanding and to make a report 
upon which this tax is based. Corporations holding charters 



CORPORATE REPORTS 



385 



from other states are required to make returns to both 
states. Local reports must also be made for purposes of 
property taxation, by both domestic and foreign corpora- 
tions. Under the Federal Income Tax Law, all corpora- 
tions are subject to a tax on their net income, and must 
make a federal report upon which this taxation is based. 
Corporations doing business in the United States and 
Canada are also required to make annual reports to desig- 
nated state and government officials. Reports from banks 
and trust companies are required several times each year. 

Blank forms for all these reports are usually furnished 
by the authorities. Foreign corporations generally report 
on the same blank as domestic corporations, though in some 
of the states a special blank is provided for their use. 

§ 320. The Annual Report 

The annual corporation report as required in most of 
the states sets forth the names of directors, amount of capi- 
tal, financial conditions, and operations for the past year; 
and must be filed with the designated state authority, usually 
the Secretary of State. There is a time specified when 
reports are to be filed, and a penalty is frequently imposed 
for failure to file the report within the specified time. 
Foreign corporations doing business in a state are required 
to file reports in both the home and the outside state and to 
comply with the laws of each. 

In some states it is required that the annual report be 
recorded in the county wherein the corporation is located, 
either in duplicate or on a blank for that particular purpose. 
Not infrequently, the one report is recorded in both the 
state and county records, and then returned to the company 
with certifications of record noted thereon. 

In practically all the states, public service companies 
must make reports of an exhaustive nature, which are re- 



386 



REPORTS AND STATEMENTS 



quired to be filed once a year or oftener with designated 
authorities. If there is a public utilities commission in the 
state, such reports are made to it. Railroad companies 
doing an interstate business are required to report to the 
Interstate Commerce Commission. 

The annual reports required by some of the states, 
especially Pennsylvania, are somewhat elaborate. Separate 
blanks are usually supplied for the different classes of cor- 
porations, as public service and insurance companies ; while 
even further divisions are made in some states, where dif- 
ferent blanks are used for different kinds of business. This 
is the case in Pennsylvania, where trading companies, 
manufacturing companies, hotels, and other kinds of com- 
panies report on separate blanks. In most states where 
reports are to be filed, a penalty is attached to the failure to 
do so within the time limit designated. 

§ 321. Federal Corporation Report 

At the present time the Federal Income Tax Law re- 
quires every corporation to file with the Collector of Internal 
Revenue of the district in which the company has its prin- 
cipal place of business, a report of its operations for each 
calendar or fiscal year. This report is made for the purpose 
of determining each company's net income for the year, on 
which the government levies a tax of 2%.* Separate forms 
are provided in duplicate for the different lines of business, 
as mercantile, miscellaneous, manufacturing, public service, 
insurance companies, banks and other financial institutions. 

§ 322. Taxable Corporations 

Every corporation, joint-stock company, or association, 
and every insurance company organized in the United 
States, excepting only the classes of corporations or associa- 

*Congress, September, 1916, increased the tax from 1% to 2% on total net 
income. 



CORPORATE REPORTS 387 

tions specially exempted, must pay a tax of 2% on its net 
income. 

Corporations organized or existing under the laws of 
any foreign country must also pay a tax of 2% on the 
amount of net income accruing from business transacted 
and capital invested in the United States. For failure to 
comply with the provisions of the law, the assessment is 
increased 50% and liability to specific penalty, not exceeding 
$10,000, is incurred. Under both federal and state laws 
certain corporations and associations are exempted from 
taxation. 

§ 323. Exempted Corporations 

The law specifically exempts the following corporations 
and associations from the payment of the Federal Income 
Tax: 

1. Labor, agricultural, or horticultural organizations. 

2. Mutual savings banks not having capital stock. 

3. Fraternal beneficiary societies, orders, or associations 
operating under the lodge system and providing for payment 
of life, sick, accident, and other benefits to members or their 
dependents. 

4. Domestic building and loan associations. 

5. Cemetery companies organized and operated exclu- 
sively for the mutual benefit of members. 

6. Corporations or associations organized and operated 
exclusively for religious, charitable, scientific or educational 
purposes, no part of the net income of which inures to the 
benefit of any private stockholder or individual. 

7. Business leagues, chambers of commerce, or boards 
of trade not organized for profit, or no part of the income 
of which inures to the benefit of private stockholders or in- 
dividuals. 

8. Civic leagues and organizations not organized for 



388 REPORTS AND STATEMENTS 

profit, but operated exclusively for promotion of social 
welfare. 

9. Clubs organized and operated exclusively for pleasure, 
recreation and other non-profitable purposes, no part of the 
net income of which inures to the benefit of any private 
stockholder or member. 

10. Farmers' or other mutual hail, cyclone, or fire insur- 
ance companies, mutual ditch or irrigation companies, 
mutual or co-operative telephone companies, or like organi- 
zations of a purely local character, the income of which con- 
sists solely of assessments, dues, and fees collected from 
members for the sole purpose of meeting its expenses. 

11. Farmers', fruit growers', or like associations, or- 
ganized and operated as sales agents for the purpose of 
marketing the products of its members and turning back to 
them the proceeds of sales, less the necessary selling ex- 
penses, on the basis of the quantity of produce furnished 
by them. 

12. Corporations or associations organized for the ex- 
clusive purpose of holding title to property, collecting income 
therefrom, and turning over the entire amount thereof, less 
expenses, to an organization which itself is exempt from the 
tax imposed by this title. 

13. Federal land banks and national farm-loan associa- 
tions. 

14. Joint-stock land banks as to income derived from 
bonds or debentures of other joint-stock land banks or any 
Federal land bank belonging to such joint-stock land bank. 

It should be especially noted that in the case of the 
sixth and seventh classes of corporations above mentioned, 
the exemption is forfeited if their stockholders or members 
receive a financial profit from the operations of the corpora- 
tion or association. 



CORPORATE REPORTS 



389 



§ 324. Return Made for Either Calendar or Fiscal Year 

Every corporation which does not give notice that its 
fiscal year ends at a date other than December 31, must file 
a return of its capital stock and indebtedness as of that date 
and its income for the calendar year, on or before March 1 
of the following year. Any corporation whose fiscal year 
does not coincide with the calendar year will be permitted 
to file its annual return for its fiscal year instead of for the 
calendar year, by notifying the collector of the district in 
which its principal office is located, of the date with which 
its fiscal year closes. Its return must then be filed within 
sixty days after the close of its fiscal year. The date desig- 
nated as the close of the fiscal year must be the last day 
of a month ; and written notice of the selected date must be 
filed with the local collector not less than thirty days prior 
to "the first day of March of the year in which its reports 
would be filed." 

Full details respecting the Income Tax Law, its reports, 
exemptions, withholding of individual income, source, etc., 
can be had from the internal revenue officer of any local 
district. The regulations are fully set forth on the blanks 
themselves. 



Part VI — Corporate Combinations 



CHAPTER XXVIII 

METHODS OF CONSOLIDATION 

§ 325. Purposes of Corporate Combinations 

The past thirty years have witnessed a wonderful 
growth in the number and size of business combinations. 
The movement began among the railroads, but it soon 
appeared in manufacturing, and more recently it has 
entered the commercial field. So common are combina- 
tions of corporate interests at the present time that nearly 
all large industrial, transportation, and public service 
corporations own or control one or more underlying or 
affiliated companies. 

The primary purpose of practically all combinations 
is to eliminate competition and secure larger profits 
through the control of prices or rates. It is true, also, 
that large-scale operation makes it possible to effect 
economies, to increase efficiency, and to render more 
satisfactory service. In spite, of these advantages, some 
of which are shared by the consuming public, there has 
always been more or less hostility toward combinations, 
due largely to their abuse of the monopolistic powers they 
usually possess. This hostility has manifested itself in 
state and federal laws designed to control or prohibit 
those combinations which are regarded as inimical to the 
public welfare. Legislation of this kind has limited the 

390 



METHODS OF CONSOLIDATION 39I 

field within which combinations may be formed, and it 
has also made their formation — even when permissible — ■ 
somewhat more difficult to effect. 

§ 326. Methods of Corporate Consolidation or Control 

Besides the legal difficulties in the way of corporate 
combinations, there are usually other difficulties of a 
financial or economic character which have to be over- 
come. To formulate a plan legally and financially possible, 
and at the same time acceptable to the varying interests 
of those concerned, is a matter which frequently taxes the 
ability and ingenuity of those who undertake its 
consummation. 

"Mutual understandings," "gentlemen's agreements,' , 
etc., whereby the competing parties agree to divide ter- 
ritory, restrict output, maintain uniform prices, or do 
other things for their mutual protection; or agreements 
of competitors to pool their interests and divide the 
resulting profits, have frequently been tried but rarely 
with success. 

The better and more acceptable methods of consoli- 
dating or otherwise bringing corporate interests under a 
unified control are given below, and most of these methods 
are illustrated in the succeeding chapters. 

1. By Merger. The several consolidating corpora- 
tions reincorporate under a single charter and become 
constituent parts of the new company. This plan is 
practically an outright purchase, as outlined in the next 
paragraph, except that the purchase under Plan 2 does 
not necessitate the rechartering of the purchasing cor- 
poration. (See Chapter XXIX.) 

2. By Purchase. The property and plant of a com- 
petitor is purchased outright, and either closed down or 
continued as a branch of the purchasing company. This 



392 CORPORATE COMBINATIONS 

may involve the voluntary dissolution of the selling com- 
pany. The current assets and liabilities of the selling 
company may or may not be included in the sale; if not, 
they must be disposed of preliminary to the company's 
liquidation. Any bonded liabilities will, of course, follow 
the plant, or other property, which forms the underlying 
security. (See Chapter XXIX.) 

3. By Lease. The property of one or more com- 
peting companies is leased to another company for a 
stated number of years, very much as one person 
would lease or rent properties from another. (See 
Chapter XXX.) 

4. By Holding Companies. Usually the holding 
company is a corporation created for the purpose of deal- 
ing in the securities of other corporations, though in some 
cases one of the consolidating companies, possessing a 
liberal charter, may be made use of for this purpose. 
Ownership of a bare majority — sometimes even less than 
half — of the stock of the competing companies is suf- 
ficient for effective control. 

The holding company is perhaps the most common 
form of combination. It is the form to which the name 
"Trust" is usually applied, because it is really the lineal 
descendant of the trust or trusteeship organization under 
which such famous combinations as the Standard Oil 
Company and the Sugar Trust were first formed. (See 
Chapter XXXI.) 

5. By Parent Companies. Territorial rights or pat- 
ent rights are sold or leased to operating companies in 
different localities, these operating companies being first 
organized by the parent company and sufficient stock 
being retained in each to insure its control. This is 
merely a variation of the holding company. (See 
Chapter XXXI.) 



METHODS OF CONSOLIDATION 393 

6. By Interlocking Directorates. Under this method, 
either the same men appear as directors of the different 
corporations to be controlled, or men representing the 
interest which controls the allied corporations are so 
distributed through the various boards of directors as 
effectually to control the corporate operations. Each 
company is to all intents and purposes a separate and 
independent company, the control exercised through 
its board of directors not affecting its status or its 
accounting. 

§327. Expert Investigations 

It is customary in any consolidation of large companies 
to have a careful preliminary investigation of the whole 
matter by lawyers, financiers, engineers, appraisers, and 
accountants, and the results of such examinations when 
properly carried out determine whether or not the pro- 
posed plans are feasible or advisable 

The following very excellent discussion of an account- 
ant's investigation for purposes of a merger or other con- 
solidation, covers very completely the details and procedure. 

Accounting Investigation Preliminary to 
Consolidation* 

§ 328. Scope of Investigation 

The nature and extent of the accountant's investiga- 
tion will depend, of course, largely upon his instructions 
and the conditions; but we will assume that manufac- 
turing concerns in the same line of business contemplate 
consolidation; that the report of the accountant upon 
each of the plants is to form the basis of the consolidation, 

*The discussion of an accounting investigation which follows is, by permission, 
taken almost verbatim from "Corporation Accounting and Investigations" by F. H. 
Macpherson, F. C. A., C. P. A., in the Journal of Accountancy, November, 1908. 



3 9 4 CORPORATE COMBINATIONS 

and that the accountant's instructions are general and 
not specific; and that they include the determining of the 
assets and liabilities as well as the earnings. 

Accountants differ as to the scope of an investigation. 
There are those who take the position that the accountant 
is not expected to make the thorough examination that 
a regular audit would entail, but that the genuineness of 
the books and of the balance sheet should be assumed. 
Most accountants, however, believe that the investigating 
accountant should analyze the accounts thoroughly, in 
the doing of which fraud, if any, would be discovered.. 

Regular audits and special investigations have, or 
ought to have, the same end in view — the obtaining of a 
correct statement of facts ; and an accountant should not 
accept and prepare a report from any balance sheet with- 
out satisfying himself by a sufficient analysis of the 
regularity of the accounts, and of the methods followed 
by which are produced the various items which enter into 
the assets of a concern, or which go to make up the 
revenue and expenditure accounts. 

§329. Report on Assets 

Statements covering each of the concerns examined 
should be included in the report of the accountants in- 
dependent of each other, and, based upon the specifications 
which have been set out, should contain information as 
follows: 

1. Assets as of a given date (the same in each in- 
stance) divided as to: 

(a) Realty 

(b) Plant and machinery 

(c) Merchandise (raw material) 

(d) Merchandise (in process) 

(e) Merchandise (finished product) 



i 



METHODS OF CONSOLIDATION 



395 



(f) Leasehold 

(g) Good- will 
(h) Patents 

(i) Accounts receivable 

(j) Bills receivable 

(k) Cash on hand and in bank 

(1) Bills receivable under discount (indirect) 

(m) Accrued interest, insurance, etc. 

(n) Such other divisions of the assets as the 
nature of the business may demand 

2. Liabilities, as of a given date (the same in each 

instance), divided as to: 

(a) Bills payable 

(b) Accounts payable 

(c) Mortgage indebtedness 

(d) Bills receivable under discount (indirect) 

(e) Other indirect liabilities 

(f) Capital account 

(g) Such other division of the liabilities as the 

nature of the business may demand 

3. Revenues and expenses. Of each business, show- 

ing earning power of each in a given time 
(usually three years if the business has been in 
operation so long) and preferably covering the 
same period. 

Taking the items under "Assets" in their order, the 
accountant will ordinarily not be called upon to verify 
items "a" to "h"; the land, buildings, stock in trade, lease- 
hold, etc., being specially valued by independent valuers. 
If not, and these are subject to verification by the auditor, 
he should in the case of: 

(a) Realty. Call for the title deeds and see that the 



396 



CORPORATE COMBINATIONS 



account is not charged with fictitious increases in value, 
or with the annual taxes. 

(b) See that a sufficient allowance has been made for 
depreciation on buildings, etc. 

(c, d, e) Merchandise. Raw, in process, and the fin- 
ished product. Get certified inventories, which should be 
checked both as to extensions and additions; an indepen- 
dent appraisement is altogether preferable. Compare 
inventory with invoices in the case of raw material. To 
see that profits are not anticipated, a careful inspection 
of cost accounts is required. In case of manufactured 
stock care must be exercised to see that office and selling 
expenses are not prorated and added to the costs of goods 
appearing in the inventory. Note should be taken of the 
"dead wood" in the stock and that proper allowance has 
been made to cover. 

(f) Leasehold. Is not usually a consideration, but 
if found to exist, a special valuation to ascertain present 
value is best; otherwise, the original cost, less propor- 
tionate reduction for the expired period, should be taken. 

(g) Good-will. This item can only be determined 
by agreement between the parties, and is one which does 
not seriously concern the accountant, except that if it is 
put in at an arbitrary sum by the vendors, he should see 
to it that the price be set forth separately and distinctly 
in the "assets" so that the purchasers may know just how 
much they are expected to pay. 

(h) Patents. See that these are entered at their 
proper present worth — which will be determined by the 
remaining life thereof, and the present "state of the art" 
in that particular connection. 

(i) Accounts receivable. A careful examination 
should be made to ascertain the condition of these, that 
they are alive and collectible, and that proper provision 



METHODS OF CONSOLIDATION 



397 



has been made for bad and doubtful; also that secreted 
in the accounts receivable may not be found charges for 
''goods on consignment" billed out at the usual profit and 
going to swell the volume of output, thus unduly in- 
creasing the earnings by the "anticipation of profits." 

(j) Bills receivable. Same examination as in the case 
of accounts, so far as prospects of realization are 
concerned. 

(k) Cash on hand and in bank. The same verification 
as in a regular audit. 

(1) Bills receivable under discount. This is an in- 
direct asset as well as an indirect liability, and it is 
important in the case of an amalgamation, where the 
liabilities are being assumed, that information on this 
point should be given. It may be necessary that some 
allowance should be made in anticipation of "loss upon 
realization." 

(m) Accrued interest, insurance, etc. See that the 
claim for these is fair and proper. 

§ 330. Report on Liabilities 

Turning next to the question of liabilities, we take up: 
(a, b) Bills payable and accounts payable. The 
verification will be the same as in a regular audit. In this 
connection it may be proper to say that there is not much 
danger of the liabilities being overstated. The principal 
danger lies in the understating or not taking to account 
of the outstanding liabilities, and this must be carefully 
guarded against if the transfer of the business involves 
the assuming of all the liabilities. 

(c) Mortgage indebtedness. Verification by the ob- 
taining of a statement from the mortgagees, both as to 
principal and arrears or accrued interest. 

(d) Bills receivable under discount. The remarks 



398 CORPORATE COMBINATIONS 

under item "1" in assets would properly apply here, being 
applicable in both cases. 

(e) Other indirect liabilities. These may be in the 
nature of indorsements (although a strictly improper and 
illegal proceeding in the case of joint-stock companies), 
claims for damages, disputed accounts for materials, 
services or commissions. A distinct statement in writing 
as to the existence or non-existence of these should be 
obtained from the proper officers of the company. 

(f) The value of the business to the purchasers will 
be represented by the difference between the assets and 
liabilities in each case and if profitable should equal the 
issue of capital stock with an addition to the assets of any 
undivided profits, which would enhance the value of the 
equity to be transferred to the amalgamation. 

§331. Revenue and Expense Accounts 

The question of revenue and expenses of operation 
will in all probability more particularly occupy the atten- 
tion of the accountant, rather than the ascertaining of 
the value of the assets and liabilities; in fact, his instruc- 
tions may limit him to the determining of these without 
regard to the other. Taking the revenue accounts first: 
the accountant will require to make a careful investiga- 
tion of the receipts for the period (usually three years) 
under examination. He will see that no extraneous 
revenue has been introduced and that the progress in the 
revenue account has been consistent and steady, or other- 
wise. He must be watchful that the revenue account has 
not been increased by credits for goods "on consignment" 
with an off-setting entry to accounts receivable. 

Other points which require to be looked into are: 
that goods "on approval" likely to be returned to stock 
afterwards have not found their way in the sales account ; 



METHODS OF CONSOLIDATION 399 

that fictitious sales, for the purpose of swelling the rev- 
enue, have not been put through the books, and shipments 
not made before close of inventory; that incompleted and 
unshipped orders have not been credited to sales account, 
thus inflating revenue by ungained profits; that rebates 
and allowances are a charge against sales and not an 
addition to merchandise account. In a word, the bona 
fides of all sales, especially near the end of the period, 
should be determined to the satisfaction of the accountant. 

It is the duty of the accountant to see that all the 
expenses entered are a proper charge against the business 
and that they are made within the proper period; that 
there is no reduction in expenses towards the close of the 
term under inspection; that the expenses are regular and 
consistent and bear a steady ratio to the turnover; that 
proper and reasonable allowances have been made for re- 
pairs and renewals, and that these are charged against 
revenue and not as an increase of capital. 

Excessive profits from any particular cause should be 
noted, as, for instance, those which might arise from the 
making of heavy purchases in anticipation of an upward 
tendency in prices, and which anticipation had been ful- 
filled. He should be satisfied that all profits earned and 
taken to account are incidental to the business. A sale 
of real estate not required for the purposes of the business, 
and made at a substantial profit, forms an example. On 
the other hand, expenditures of exceptional and unusual 
character which have gone to reduce the profits below 
normal should be noted. 

§ 332. Cost of Operation 

In the consideration of the cost of operation, heed 
should be given to the effect which a limited capital has 
had upon the expenses of operation. Lack of capital is 



4 00 CORPORATE COMBINATIONS 

naturally followed by increased borrowings, and increased 
borrowings augment the interest account. Operation is 
thus charged with a sum which, had adequate capital been 
invested, would have been in the nature of a dividend. 
By way of illustration, take a business in which every 
dollar of capital invested was borrowed. This may appear 
an extreme case, but such a business is, nevertheless, 
sometimes to be found. The borrowed capital is $100,000. 
Upon this sum interest is paid out of the business and 
charged to operating expenses. We are asked to inves- 
tigate. In the preparation of the profit and loss account 
we eliminate the $6,000 interest paid on this sum, in order 
to arrive at the earning power of the business. It can 
readily be seen how unfair any other course would have 
been, and how lack of sufficient capital in any business 
will impair the earning power and affect the showing as 
to profits, unless allowance be made therefor. There is 
no room here for the exercise of a display of good judg- 
ment on the part of the auditor in determining what the 
"adequate capital" should be. 

§ 333- Reports and Certificates 

Reports in detail upon each business should be pre- 
pared and furnished the principals, and these should form 
the basis upon which the amalgamation is carried out. 
Regard, of course, will also be had to the introduction of 
other interests where more extensive operations are con- 
templated by the amalgamating company. 

In addition to the report in detail, a certificate is 
usually prepared for use in the prospectus. This certificate 
is generally barren of all information except as to the 
revenues, expenses of operation, and profit-earning power 
of the various businesses entering the amalgamation, and 
these in the aggregate. Indeed, certificates are not un- 



1 



METHODS OF CONSOLIDATION 401 

common in which information is given only as to the 
profits earned by the several businesses. It is unusual to 
see any reference to the amount of capital invested. A 
model certificate would be one framed somewhat after the 
following style: 

CERTIFICATION 
Gentlemen : — I have examined the records of The Brown Manu- 
facturing Company, Limited, and of The Jones Manufacturing Company, 
Limited, each for a period of three years, and hereby certify to the 
correctness -of the underwritten statements, as to Capital, Earnings, 
Expenses of Operation, and Net Earnings, covering the period given : 

Brown Manufacturing Co., Limited 

Net Capital Expenses of Net Earn- 
Employed Earnings Operation ings 
1898 $ $ $ $ 

1809 

1900 



Total. $ $ $. 



Jones Manufacturing Co., Limited 

Net Capital Expenses of Net Earn- 

Employed Earnings Operation ings 

1898 $ $ $ $ 

1899 

1900 



Total. $ $ $ 

Combined Companies 

Net Capital Expenses of Net Earn- 

Employed Earnings Operation ings 

1898 $ $ $ $ 

1899 

1900 



Total. $ $ $ 

For further information reference is made to my reports in detail 

herewith - John Thompson, 

Accountant 



402 



CORPORATE COMBINATIONS 



The less detail there is in the report the better, for 
the obvious reason that much of it would not be under- 
stood by the average individual, and the tendency would 
be to befog rather than enlighten, and that is very un- 
desirable. But an accountant issuing a certificate framed 
as above, with a simple qualifying reference to a report 
for further and detailed information, will be placing him- 
self upon safe and sure ground. 



CHAPTER XXIX 

CONSOLIDATION BY MERGER 

§ 334. General Procedure for Merger 

When a consolidation is to be effected by merger, the 
consolidating companies usually form one large corpora- 
tion. The new corporation becomes the sole legal entity, 
while the original companies lose their separate existence 
and are finally dissolved. The merger agreement may 
stipulate that one or more of the merging companies 
shall first modify in some way its existing assets or 
liabilities. Usually, however, the new corporation takes 
over at once, as far as it legally can, the entire rights, 
property, privileges, and franchises of the constituent 
corporations as "going concerns," continuing the busi- 
ness of each, fulfilling all existing contracts, collecting all 
outstanding claims, and discharging all current liabilities. 
This is a form of combination that has in many cases proven 
effective and satisfactory. 

The following example illustrates the manner of 
merging several independent concerns one of which is a 
partnership. The details and the accounting require- 
ments are taken up in proper sequence. Although this 
example is made somewhat exhaustive in order to bring 
out the important points, it is, of course, impossible to 
present all of the points that may come up in connection 
with a corporation merger. 

§ 335- General Conditions of the Merger 

Three corporations and a partnership are to be com- 

403 



4 4 CORPORATE COMBINATIONS 

bined. All are prosperous manufacturing concerns in the 
same or allied industries. They are to become incorporated 
under the laws of New Jersey as the "Long-Bain Manu- 
facturing Company" with an authorized capital stock of 
$16,000,000, of which one-half is to be common stock, and 
one-half 7% cumulative preferred stock; par value of 
shares, $100 each. There is also to be an issue of first 
mortgage 5% thirty-year sinking fund bonds of $5,000,- 
000. They are to be coupon in form and in denominations 
of $1,000 and $10,000, with privilege of registration as to 
principal. 



§ 336. Statement of Concerns to Be Merged 

Statement of Merging Companies 
January i, 1916 





Long 


Bain 


Vine 


Bell & 




Assets 


Company 


Company Company 


Davis 


Total 


Cash 


$572,800 


$272,500 


$33,800 


$36,100 


$915,200 


Notes Receivable.. 


340,600 


135,800 


69,100 


114,000 


659,500 


Accounts Receivable 


1,021,300 


492,750 


162,800 


82,400 


1,759,250 


Prepaid Charges. . . 


46,200 


38,150 


9,200 


4,000 


97,550 


Investments 


500,000 


150,000 




25,000 


675,000 


Stock and Material. 


964,300 


510,000 


188,800 


152,000 


1,815,100 


Supplies 


175,100 


51,000 
120,000 


7,800 


12,400 
35,ooo 


247,200 
155,000 


Pledged Securities. 




Due from Bain Com- 












pany 


85,000 






16,000 


101,000 


Furniture and 








Fixtures 


125,000 


62,000 


22,000 


14,000 


223,000 


Patents, Patterns 












and Tools 


450,000 


244,850 


132,500 


92,000 


919,350 


Buildings and Plant 


4,390,000 


3,359,ooo 


450,000 


110,000 


8,309,000 


Good-Will 


1,000,000 




250,000 




1,250,000 


Sinking Fund 


740,000 








740,000 


Total $ 


;io,4io,300 


$5,436,950 $: 


[,326,000 


$692,900 ! 


$17,866,150 



CONSOLIDATION BY MERGER 405 

Long Bain Vine Bell & 

Liabilities Company Company Company Davis Total 

Secured Loans $ $100,000 $ $30,000 $130,000 

Notes Payable 685,000 270,000 150,000 75,100 1,180,100 

Accounts Payable.. 350,000 540,000 202,600 205,100 1,297,700 

Accrued Charges.. 37,ooo 11,640 8,200 6,200 63,940 

Reserve for Depre- 
ciation 345,100 120,500 54,000 519,600 

Reserve for Bad 

Debts 10,000 5,310 1,200 1,000 17,510 

Reserve for Insur- 
ance 105,500 105,500 

Mortgage Payable 300,000 250,000 20,000 570,000 

Interest Accrued on 

Mortgage Payable 4,500 500 5,000 

Dividend Payable.. 230,000 105,000 30,000 365,000 

First Mortgage 5% 

Bonds 2,500,000 2,500,000 

Capital Stock 5,000,000 3,500,000 600,000 355,000* 9,455,000 

Surplus 1,146,800 480,000 30,000 1,656,800 



Total $10,410,300 $5,436,950 $1,3.26,000 $692,900 $17,866,150 



Profits for Four Years : 

For Year 1912.. $550,000 $290,000 $45,000 $22,500 $907,500 

1913.. 640,000 340,000 71,000 29,500 1,080,500 

1914.. 680,000 430,000 57,ooo 26,400 1,193,400 

1915.. 760,000 370,000 62,000 38,600 1,230,600 



Total $2,630,000 $1,430,000 $235,000 $117,000 $4,412,000 



Average $657,500 $357>50o $58,750 $29,2.50 $1,103,000 



All the merging concerns have been profitable and the 
corporations have been paying high dividends. All but 
the Vine Company have allowed a large proportion of 



Capital to credit of partners at this date. 



4 o6 CORPORATE COMBINATIONS 

their profits to remain in the business, and this is also 
true of Bell & Davis. 

§ 337- Terms of Merger 

The four concerns sell out to the new company and 
receive in exchange and in full payment for their respec- 
tive properties, stock as stated below: 

Preferred Common Total 

To Long Company $4,000,000 $4,000,000 $8,000,000 

To Bain Company 2,500,000 2,500,000 5,000,000 

To Vine Company 450,000 450,000 900,000 

To Bell & Davis 250,000 250,000 500,000 

To the underwriters for services... 100,000 100,000 200,000 

$7,300,000 $7,300,000 $14,600,000 
To be sold to the public „ . . . 700,000 700,000 1,400,000 

Total authorized issue $8,000,000 $8,000,000 $16,000,000 



Each company is to pay any dividends due its stock- 
holders at the date of the merger; it is to liquidate its 
secured loans, thereby releasing the pledged securities, 
and then convey the remaining assets and liabilities to the 
new company in exchange for the stated amounts of the 
latter's stock. Each company is then to donate to the 
new corporation for working purposes 10% of the com- 
mon stock received by it from the new company; and the 
remainder of the common stock, together with all of the 
preferred stock received by the corporations, is to be 
distributed by them among their respective stockholders. 
When this has been done the companies are to go into 
voluntary liquidation and surrender their charters. 

The good-will allowed to the several concerns in fixing 
the price to be paid is shown in the following exhibit: 



CONSOLIDATION BY MERGER 



407 



Apportionment of Good-Will 

(Showing the amount of good-will allowed to each company) 
Long Bain Vine Bell & 

Company Company Company Davis Total 

Purchase Price $8,000,000 $5,000,000 $900,000 $500,000 $14,400,000 

Former Capital 
Stock and Surplus 
(including good- 
will) 6,146,800 3,980,000 630,000 355,000 11,111,800 



Additional Good- 
Will (included in 
purchase price).. $1,853,200 $1,020,000 $270,000 $145,000 $3,288,200 

Good-Will Formerly 
on Books 1,000,000 250,000 1,250,000 



Total Good-Will. $2,853,200 $1,020,000 $520,000 $145,000 $4,538,200 



The outstanding bonds and mortgages and accrued 
interest of the merged concerns are to be redeemed with 
an equivalent amount of the bonds of the new company; 
and in the case of the Long Company, in addition a 10% 
bonus of common stock of the new company is to be 
given. 

The Keystone Trust Company, trustee of the mort- 
gage deed and of the sinking fund of the Long Company, 
is to act in a similar capacity for the new corporation. 

The present sinking fund of the Long Company 
($740,000) is to remain in the hands of the trustee and 
to become part of the sinking fund of the new corporation. 
Beginning January 1, 1920, an annual deposit of $120,000 
is to be made to the sinking fund, and a reserve of 
$6,000 for premium on bonds purchased by the sinking 
fund trustee is to be set aside annually out of profits 
beginning December 31, 1920. The trustee is to have 
the right to purchase for investment, in the open market, 
outstanding bonds of the new company at 105 and accrued 



40 8 CORPORATE COMBINATIONS 

interest, at any interest period after January i, 1922. At 
the discretion of the directors, the bonds so held by the 
sinking fund trustee may be cancelled at par on the books 
of the company or may be permitted to remain therein 
as an investment. 

Of the bonds of the new corporation not required to 
redeem the outstanding bonds of the merged companies, 
$1,000,000 face value have been sold to Mitchell & 
Stevens, bankers, at 90, payable one-third down and one- 
third each three months until paid. Preferred stock 
$500,000 is sold for cash through Bell Brothers & 
Company, bankers, with a 50% bonus of common stock, 
to provide operating capital. 

§ 338. Requirements for the Consolidation 

From the standpoint of the accountant, the more 
important matters involved in the Long-Bain consolida- 
tion are as follows: 

1. The procedure necessary to complete the con- 

solidation and to bring about the dissolution 
of the existing concerns. 

2. The opening entries on the books of the newly 

incorporated Long-Bain Company, assuming 
that a new set of books is to be opened, 
that all assets and liabilities of the Long Com- 
pany, of the Vine Company, and of Bell & 
Davis are to be included in the new ledger, and 
that the books and accounts of the Bain 
Company will be continued in the branch office. 

3. The arrangement for the conduct of the branches, 

assuming that the plant of the Long Company 
is to be used as the head office and all the other 
concerns operated as branches. 



CONSOLIDATION BY MERGER 409 

4. The closing entries of the Long Company, the 

Vine Company, and the Bain Company at the 
time of dissolution and merger. 

5. The consolidated balance sheet of the new cor- 

poration after all of the preceding requirements 
have been carried out. 

§ 339* Procedure for Consolidation 

1. Agreement of Directors. A joint agreement by 
the directors of each constituent company and the partners 
of the associated firm must be entered into, fixing the 
terms of the consolidation. 

2. Approval of Stockholders. This joint agreement 
is then submitted to the stockholders of each company 
at a meeting called for the purpose, of which due notice 
must have been given. 

3. Application for New Charter. The charter of the 
proposed Long-Bain Manufacturing Company must be 
prepared and filed with the Secretary of State of New 
Jersey, and all other requirements prescribed by the laws 
of New Jersey must be complied with. The new company 
may be organized as entirely independent of the con- 
solidated corporations, or the promoters may secure 
authority to increase the stock of the Long Company 
from $5,000,000 to $16,000,000, and to change its cor- 
porate name to the Long-Bain Manufacturing Company. 

4. Transfer of Property to New Corporation. All 
*5sets and liabilities of the merged concerns must be 
transferred or assigned to the new Long-Bain Manufac- 
turing Company. Personal properties are conveyed by 
assignment or bill of sale, and real properties by deed. 

* he bank balance of each concern must be transferred by 
"heck. All negotiable papers must be indorsed over to 
the new company, and official assignment made of other 



4io 



CORPORATE COMBINATIONS 



documents such as insurance policies, contracts, etc. The 
outstanding mortgages of the dissolving companies are 
to be exchanged for bonds of the new corporation at par. 

5. Surrender of Old Charters. Where the corpora- 
tions to be taken over are not merged directly in the ab- 
sorbing corporation, and are not to be kept in existence, 
application must be made to the state by each corporation 
for permission to surrender its charter. It is, however, 
frequently found advisable to keep the charter of "sub- 
merged" companies alive in order to prevent competitors 
from adopting the names and benefiting by their former 
connections; as an alternative, the names of the merged 
concerns are sometimes carried on the stationery of the new 
corporation. 

The partnership of Bell & Davis has power either to 
dissolve or to sell out without asking authority from the 
state. 

6. Issue of Stock and Bonds of New Company. At 
the time the properties of the old concerns are transferred 
to the Long-Bain Manufacturing Company, stock and 
bonds of this company are issued and distributed to the 
proper persons in accordance with the terms of consoli- 
dation. The stock apportioned to each company may be 
handed over to its directors, and be by them distributed; 
or certificates may be issued direct to each individual 
stockholder for the exact amount due to him. Usually 
a trustee is appointed for this purpose, to whom the 
separate stockholders deliver or assign their stock in the 
old corporations in exchange for temporary trust receipts, 
and to whom the new corporation issues the stock to be 
exchanged. The trustee then delivers the new stock to 
its individual owners and surrenders the old stock to the 
new corporation or retains it for cancellation. The 



; 



CONSOLIDATION BY MERGER 4ir 

amount of common stock to be donated back to the new- 
company by each dissolving concern might conveniently 
be issued by the new company to the trustee in a separate 
certificate to facilitate the return thereof. 

§ 340. Opening Entries on Books of New Corporation 

It is desirable to have an entirely new set of books 
for the newly organized corporation, in order that ample 
and careful arrangements may be made to accommodate 
the larger volume of business and the number of accounts 
that must necessarily follow such an amalgamation of 
interests. When opening the new ledger care should be 
taken to arrange the accounts in a systematic manner 
and to leave sufficient space for each. If a loose-leaf 
ledger is to be used, this latter precaution will not be 
necessary. 

§ 341. (1) Entries for Issuance of Stock and Bonds 

The opening journal entries to record the issue and 
disposition of the capital stock and to bring the bond issue 
on the books of the new corporation are as follows: 

January 1, 1916 
First Entry 

Unissued Common Stock $8,000,000 

Unissued Preferred Stock 8,000,000 

To Authorized Capital Stock — Com- 
mon $8,000,000 

" Authorized Capital Stock — Pre- 
ferred 8,000,000 

The Long-Bain Manufacturing Company 
has been incorporated with a capital 
stock of $16,000,000 as shown here- 
with. It is to take over, as per joint 
agreement, the assets and liabilities of, 
and merge, the following concerns, to 



412 



CORPORATE COMBINATIONS 

which full-paid stock is to be issued in 
full settlement as shown: 

Preferred Common 
Long Company. .$4,000,000 $4,000,000 
Bain Company. . 2,500,000 2,500,000 
Vine Company. . 450,000 450,000 
Bell & Davis 250,000 250,000 



Total payment $7,200,000 $7,200,000 
The remaining 

stock is to be 

disposed of as 

follows : 
To the under- 

writers for 

services 100,000 100,000 

To be sold to the 

public 700,000 700,000 



Total authorized 

issue $8,000,000 $8,000,000 



Second Entry 

Long Company $8,000,000 

Bain Company 5,000,000 

Vine Company 900,000 

Bell & Davis 500,000 

To Unissued Common Stock $7,200,000 

" Unissued Preferred Stock 7,200,000 

For stock issued to the directors of the 
above-named concerns, as per agree- 
ments of merger. The shares are issued 
at par in full payment for the respec- 
tive plants and other assets. The 
shares issued to each company are as 
follows : 

Preferred Common 
Long Company. . . . 40,000 40,000 
Bain Company. . . . 25,000 25,000 
Vine Company. . . . 4,500 4,500 

Bell & Davis 2,500 2,500 



CONSOLIDATION BY MERGER 4I ^ 

Third Entry 

Stock Subscription (or The Underwriters)... $200,000 

To Unissued Common Stock $100,000 

" Unissued Preferred Stock 100,000 

For subscriptions to 1,000 shares of common 
stock and 1,000 shares of preferred, to be 
paid for in professional services. 

This issue of stock might be charged directly to 
organization expense if desired. 

The following entry is necessary to bring the bond 
issue on the books: 
Fourth Entry 

Unissued Bonds $5,000,000 

To First Mortgage Bonds $5,000,000 

Authorization of $5,000,000 of first mort- 
gage 5% thirty-year sinking fund 
bonds in denominations of $1,000 and 
$10,000. 

§ 342. (2) Entries for Assets and Liabilities Taken Over 

The entries for issuance of stock and bonds are now 
complete, and the next step is to take over the assets and 
liabilities of the merging concerns in full payment for 
their subscriptions. A separate entry is here made for 
each, though it is obvious that the various assets and 
liabilities could be amalgamated into one comprehensive 
entry. In that case the entry would state the aggregate 
of the items taken over, instead of the separate amounts. 

First Entry (Transfer of Long Company's Assets and Liabilities) 
Sundry Assets to Sundry Liabilities : 

Assets 

Cash* $342,800 

Notes Receivable 340,600 

Accounts Receivable 1,021,300 

Prepaid Charges 46,200 

* After the payment of $230,000 in dividends. 



4I4 CORPORATE COMBINATIONS 

Investments 500,000 

Stock and Material 964,300 

Supplies 175,100 

Due from Bain Company 85,000 

Furniture and Fixtures 125,000 

Patents, Patterns, and Tools 450,000 

Buildings and Plant 4,390,000 

Sinking Fund 740,000 

Good-Will 2,853,200 

Liabilities 

Notes Payable $685,000 

Accounts Payable 350,000 

Accrued Charges 37,900 

Reserve for Depreciation 345,100 

Reserve for Bad Debts 10,000 

Reserve for Insurance 105,500 

Bonds of Long Company „ 2,500,000 

Long Company „ 8,000,000 

The above assets and liabilities of the 

Long Company have been taken over 

this day at the valuations shown, as 

per report of the engineers and ac- 
countants, in full payment for $8,000,- 

000 capital stock of this Company, as 

per order of the directors and agree- 
ments previously entered into. An 

equivalent of common and preferred 

stock has been issued in exchange 

therefor, as per agreement. 

Total assets $12,033,500 

Total liabilities 4,033,500 

Capital issued 8,000,000 

Second Entry (Transfer of Assets and Liabilities of Bell & Davis) 
Sundry Assets to Sundry Liabilities : 

Assets 

Cash* $6,100 

Notes Receivable 114,000 

*After payment of $30,000 secured loans. 



CONSOLIDATION BY MERGER 



415 



Accounts Receivable 82,400 

Prepaid Charges 4,000 

Investments 60,000 

Stock and Material 152,000 

Supplies 12,400 

Due from Bain Company 16,000 

Furniture and Fixtures 14,000 

Patents, Patterns, and Tools 92,000 

Buildings and Plant 1 10,000 

Good- Will 145,000 

Liabilities 

Notes Payable $75, 100 

Accounts Payable 205,100 

Accrued Charges 6,200 

Reserve for Bad Debts 1,000 

Mortgage of Bell & Davis 20,000 

Interest Accrued 500 

Bell & Davis 500,000 

(Full explanation required, as above.) 

The assets and liabilities of the Vine Company are 
transferred to the books of the new company in like 
manner after the deduction of the $30,000 to be paid out in 
dividends. 

As the assets and liabilities of the Bain Company are 
to be retained and carried in its own ledger, they are not 
to be taken into the home office accounts. The books of 
this company are to be kept as heretofore and the only 
change apparent will be that of ownership, with a reflected 
increase in capital, surplus, and good-will accounts. The 
ownership of this branch will be represented in the home 
office books in a distinguishing account, as "Bain Plant," 
"Bain Branch," "Investment in Bain Plant," or under 
some other suitable caption. Since this plant cost 
$5,000,000, it will therefore be represented at the same 
valuation on the new company's books. The entries are 
as follows: 



4 i6 CORPORATE COMBINATIONS 

Bain Plant Investment $5,000,000 

To Bain Company $5,000,000 

For transfer from Bain Company of all 
assets, liabilities, etc., valued at $5,000,- 
000, as per statements on file, in ex- 
change for an equivalent of stock of 
this Company, as per agreement. 

Certain of the assets of the Bain branch might with 
advantage be included in the home office accounts (§ 350), 
in which case the above amount would be correspondingly 
reduced. 

At this time the following entries, which are self- 
explanatory, might also be made: 

Incorporation Expenses ' $25,000 

To Cash $25,000 

For incorporation expenses and other charges, 
including professional services of attorneys 
and accountants. 

Treasury Stock $720,000 

To Donated Capital (or Donated Surplus) $720,000 

The consolidating companies have this day 
donated to the Long-Bain Company, for 
working purposes, one-tenth of their hold- 
ings of common stock — 10% of $7,200,000 
equals $720,000, entered at par value. 

This transaction should be completed before the final 
issue of certificates has been made to the various 
stockholders. 

§ 343- (3) Entries for Retirement of Outstanding Bonds 
and Mortgages of the Merging Concerns 

First Entry 

Bonds of Long Company $2,500,000 

Mortgage of Bell & Davis 20,000 



CONSOLIDATION BY MERGER 417 

Interest Accrued 500 

Bain Plant Investment 304,500 

Mortgage of Vine Company 250,000 

To Unissued Bonds $3,075,000 

For refunding of all outstanding bonds 
and mortgages of the merging con- 
cerns, per merger agreement, entry of 
Bain Plant Investment including mort- 
gage of Bain Company and accrued 
interest on same $4,500. 

Since the bonds of the Long Company and the 
mortgages of the Vine Company and of Bell & Davis, 
with accrued interest, have been included in the accounts 
of the new company, they can be readily cancelled by an 
offsetting entry. This is not true, however, of the 
mortgage of the Bain Company branch, since all accounts 
are retained in its own book. The outlay on account of 
this branch must then be regarded either as an additional 
expenditure or as an investment therein and charged up 
accordingly. It can hardly be considered an additional 
investment in the true sense of the word, since there is an 
equivalent issue of bond obligations; but the liability is 
transferred from the branch books to the home office 
books. 

Second Entry 

Donated Capital $250,000 

To Treasury Stock $250,000 

A bonus of donated common stock given to 
holders of refunded bonds of the Long 
Company, 10% of $2,500,000. 

§ 344. (4) Entries Relating to Sale of Securities 

First Entry 

Incorporation Expenses . $200,000 

To Stock Subscription (or Underwriters) $200,000 



4 i8 CORPORATE COMBINATIONS 

Being an issue of stock to the underwriters 
of this Company for services rendered in 
organizing, and in full payment of their 
subscriptions : 

1,000 shares common $100,000 

1,000 shares preferred 100,000 

Second Entry 

Mitchell & Stevens, Bankers $900,000 

Discount on Bonds 100,000 

To Unissued Bonds $1,000,000 

For sale of $1,000,000 par of bonds to bank- 
ers at 90, payable one-third down and 
one-third each three months. 

Third Entry 

Cash $300,000 

To Mitchell & Stevens, Bankers $300,000 

First payment of one-third on account of 
bond sale. 

Fourth Entry 

Cash $500,000 

To Unissued Preferred Stock $500,000 

For sale of $500,000 par of preferred stock 
to Bell Brothers & Company, bankers. 
Full payment received in cash ; 50% bonus 
of common stock given as entered below. 

Fifth Entry 

Donated Capital $250,000 

To Treasury Stock $250,000 

Bonus of common stock given to Bell 
Brothers & Company, being 50% of cash 
sale of $500,000 of preferred stock. 

§ 345- (5) Entry in Settlement of Intercompany Obliga- 
tions 

The following entry in settlement of intercompany 
obligations would be made as soon as the Bain plant is 



CONSOLIDATION BY MERGER 4I q 

in a position to spare the cash. This indebtedness could 
have been, and usually is, settled before making the 
transfer; otherwise it could be included in the regular 
personal accounts. 

Cash $101,000 

To Due from Bain Company $101,000 

To settle claims owing by the Bain Com- 
pany at time of amalgamation, and which 
were carried into the accounts of this 
Company as follows : 

Owing to Long Company $85,000 

Owing to Bell & Davis 16,000 

There is nothing special to be done with the sinking 
fund at this time, and it will stand on the books of the 
new corporation as it formerly stood on the books of the 
Long Company, until additional instalments are deposited 
therein. All interest accumulations thereon must, of 
course, be added from time to time as they are reported 
by the trustee. It will be noted that the trustee has 
authority to use the sinking fund for the purchase of 
outstanding bonds of the company. 

In anticipation of the bond redemption at 105, the 
company is to begin, on January 1, 1920, to set aside out 
of profits an annual reserve of $6,000 to offset bond 
premium, which may be credited to Reserve for Bond 
Premium. When the bonds are called at a premium, such 
premium is charged against the reserve. 

§ 346. The Conduct of the Branches 

There are two main systems of conducting branch 
houses: in the one, all accounts are kept in the books of 
the home office and all collections are made therefrom, all 
business transacted at the branches being reported daily 
to the home office; in the other, all accounts and records 



4 2o CORPORATE COMBINATIONS 

are kept at the branch offices and reports are made to the 
home office from time to time. 

As all the assets and liabilities of the Vine Company 
and of Bell & Davis have been taken onto the home office 
books, it may be assumed that these branch offices are to 
be handled under the first plan — practically as selling 
agencies. It is evident that the Bain plant is to be 
handled under the second plan, the assets and liabilities 
being continued in its own ledgers and its own complete 
set of books being maintained as before. Therefore, any 
adjustments necessary in the transfer of ownership and 
liquidation of certain liabilities must necessarily be made 
in these books. This branch will keep all accounts per- 
taining to its business affairs and report periodically to the 
home office. 

In the Vine Company and Bell & Davis offices, 
triplicate copies will be made of each invoice; the original 
will be given to the customer, the duplicate forwarded to 
the home office, and the triplicate kept on file at the 
branch. A like plan is followed in connection with all 
other transactions, thus enabling the home office to record 
each day the various sales, purchases, and expenses of 
these branches. 

Cash or merchandise sent from the home office to the 
branches is charged to them, and remittances of cash or 
merchandise from the branches to the home office are 
credited to the branches. Goods or cash sent from one 
branch to another must, of course, be reported to the 
home office promptly so that interbranch debits and 
credits may be made. 

Since the office of the Long Company becomes the 
head office, no material changes are necessary in its 
methods of account-keeping, though a new general ledger 
is assumed to have been opened. 



CONSOLIDATION BY MERGER 



421 



§ 347. Closing Entries for Long Company 

In these illustrative entries many of the details and 
computations used in arriving at results are omitted. 
They are usually all proved by the accountant, however, 
in his working papers and can be referred to at any time 
during the process of consolidation. 

First Entry 

Dividend Payable $230,000 

To Cash $230,000 

For payment of dividend due today. 

Second Entry 

Good-Will $1,853,000 

To Surplus $1,853,000 

This Company has agreed to merge with 

and sell out to the Long-Bain Manu- 
facturing Company for $8,000,000, as 

per agreement executed this day, and 

as per order of the directors. The 

good-will allowed in addition to the 

$1,000,000 already on the books is 

$1,853,000. 

Third Entry 

Long-Bain Manufacturing Company. ..... .$12,033,500 

To Sundry Assets: 

Cash $342,800 

Notes Receivable 340,600 

Accounts Receivable 1,021,300 

Prepaid Charges 46,200 

Investments 500,000 

Stock and Material 964,300 

Supplies 175,100 

Due from Bain Company 85,000 

Furniture and Fixtures 125,000 

Patents, Patterns and Tools 450,000 

Building and Plant 4,390,000 

Sinking Fund 740,000 

Good-Will 2,853,200 



4 22 CORPORATE COMBINATIONS 

For all assets turned over in payment of 
subscription to $8,000,000 of stock, as 
per resolution of the directors and 
stockholders. 

Fourth Entry 
Sundry Liabilities: 

Notes Payable $685,000 

Accounts Payable „ 350,000 

Accrued Charges 37,900 

Reserve for Depreciation 345,100 

Reserve for Bad Debts 10,000 

Reserve for Insurance 105,500 

First Mortgage Bonds 2,500,000 

To Long-Bain Manufacturing Com- 
pany $4,033>500 

For all liabilities of Long Company as- 
sumed by the Long-Bain Company as 
per agreement. 

Fifth Entry 

Stock of Long-Bain Manufacturing Com- 
pany $8,000,000 

To Long-Bain Manufacturing Com- 
pany $8,000,000 

For $8,000,000 of the capital stock of the 
Long-Bain Manufacturing Company 
received this day, as per agreement, 
in full payment for plant, assets, and 
liabilities turned over and transferred 
according to legal requirements : 
40,000 shares common stock $4,000,000 
40,000 shares preferred stock 4,000,000 

Total $8,000,000 

Sixth Entry 

Surplus $400,000 

To Stock of Long-Bain Manufactur- 
ing Company $400,000 



CONSOLIDATION BY MERGER 423 

For donation of 10% of the allotment of 
$4,000,000 common stock, to be used 
by the Long-Bain Company for work- 
ing purposes. 

Seventh Entry 

Capital Stock $4,600,000 

Surplus 3,000,000 

To Sundry Stockholders $7,600,000 

For allotment of stock of the Long-Bain 
Company to the individual stockhold- 
ers in proportion to holdings. 

The distribution of stock must, of course, be made in 
the proportion decided upon by the stockholders them- 
selves, and it is evident that uneven amounts of both 
classes of stock will obtain. In some cases to make an 
equitable adjustment, money will have to be passed for 
the equalization of shares. 

Eighth Entry 

Sundry Stockholders $7,600,000 

To Stock of Long-Bain Manufactur- 
ing Company $7,600,000 

For distribution of the common and pre- 
ferred stock of the above company in 
accordance with allotment agreement. 

§ 348. Closing Entries for Vine Company ; Bell & Davis 

Similar adjusting and closing entries are required on 
the books of the Vine Company, setting up the necessary 
accounts for clearing the transaction and distributing the 
newly acquired stock. 

Closing entries for Bell & Davis are similar to those 
given in §§ 167-169. 



§ 349. Closing Entries for Bain Company 

Since the operating accounts of this company are to 



424 CORPORATE COMBINATIONS 

remain on the books of the branch, it is manifest that only 
certain adjusting entries are necessary at this time. They 
are as follows: 

First Entry 

Good- Will $1,020,000 

To Surplus $1,020,000 

For sale value of plant and net worth in 
excess of present book value. (Full 
explanation here.) 

Second Entry 

Dividend Payable $105,000 

To Cash $105,000 

For payment of dividend due today. 

Third Entry 

Secured Loans $100,000 

To Cash $100,000 

For payment of secured loans. 

Fourth Entry 

Investments $120,000 

To Pledged Securities $120,000 

For return of pledged securities upon 
payment of loan. 

Fifth Entry 

Stock of Long-Bain Manufacturing Com- 
pany $5,000,000 

To Long-Bain Manufacturing Com- 
pany $5,000,000 

For common and preferred stock of the 
Long-Bain Company received in full 
payment for plant, assets, and liabili- 
ties: 

25,000 shares common.... $2,500,000 
25,000 shares preferred. . . . 2,500,000 

Total $5,000,000 



CONSOLIDATION BY MERGER 



425 



Sixth Entry 

Surplus $250,000 

To Stock of Long-Bain Manufactur- 
ing Company $250,000 

For donation of 2,500 shares common 
stock back to the Long-Bain Company 
for working purposes. 

Seventh Entry 

Capital Stock $3,500,000 

Surplus 1,250,000 

To Sundry Stockholders $4,750,000 

For allotment of stock in the new cor- 
poration, in proportion to holdings. 

Eighth Entry 

Sundry Stockholders $4,750,000 

To Stock of Long-Bain Manufactur- 
ing Company $4,750,000 

For distribution of stock, as per agree- 
ment of adjustments. 

Ninth Entry 

Mortgage Payable $300,000 

Interest Accrued 4,500 

To Long-Bain Manufacturing Com- 
pany (Home Office) $304,500 

For payment of mortgage and accrued 
interest by the Long-Bain Company 
by an equivalent exchange of 5% bonds. 

Tenth Entry (For payment of interbranch obligations when cash 
is ample, as per agreement) 

Accounts Payable $101,000 

To Cash $101,000 

Payment of accounts due : 

Long Company $85,000 

Bell & Davis 16,000 

§ 350. Balance Sheet of Bain Branch 

The ledger accounts maintained on the Bain branch 



426 



CORPORATE COMBINATIONS 



books are reflected in the accompanying balance sheet, 
showing the proprietorship interest of $5,304,500 standing 
to the credit of the Long-Bain Manufacturing Company. 
Certain of the assets could, with some advantage, be 
transferred to the home office books and removed from 
the branch ledger, such as the investments, buildings and 
plant (particularly the real estate). Depreciation reserve 
and good-will might also be transferred. This would leave 
only working accounts on the branch ledger, and a credit 
of $776,000 to the home office account. The accountant 
must, of course, suit his entries to existing conditions. 

Balance Sheet of the Bain Branch 

(After sale to the Long-Bain Company, showing open ledger accounts.) 



Cash 


$67,500.00 


Notes Payable 


$270,000.00 


Notes Receivable .... 


135,800.00 


Accounts Payable*. . . 


540,000.00 


Accounts Receivable. 


492,750.00 


Accrued Charges. . . . 


11,640.00 


Prepaid Charges 


38,150.00 


Reserve for Depre- 




Investments 


270,000.00 


ciation 


120,500.00 


Stock and Material. . 


510,000.00 


Reserve for Bad 




Supplies 


51,900.00 


Debts 


5,3io.oo 


Furniture and 


Long-Bain Company 


Fixtures 


62,000.00 


Home Office Ac- 




Patents, Patterns, and 




count 


5,304,500.00 


Tools 


244,850.00 
3,359,ooo-00 






Buildings and Plant.. 






Good- Will 


1,020,000.00 


< 








$6,251,950.00 


56,251,950.00 



§ 351. Consolidated Balance Sheet of New Corporation 

The consolidated balance sheet which follows is prac- 
tically a trial balance of the ledger accounts after the 
incorporation of the new company. 



* Intercompany obligations of $101,000 included, not to be paid until cash is 

ample. 



CONSOLIDATION BY MERGER 



427 



Consolidated Balance Sheet 

Of the Long-Bain Manufacturing Company 

As of January i, 1916 

(After Incorporation and Merging) 



Assets 




Liabilities and Capital 


Cash 


$1,228700.00 


Notes Payable 


$910,100.00 


Notes Receivable. . . 


523,700.00 


Accounts Payable.. 


757,700.00 


Accounts Receivable. 


1,266,500.00 


Accrued Charges... 


52,300.00 


Prepaid Charges. . . . 


59,400.00 


Reserve for Depre- 




Investments : 




ciation 


399,100.00 


Bain Branch Plant 


5,304,500.00 


Reserve for Bad 




Stock of Other 


560,000.00 


Debts 


12,200.00 


Companies 


Reserve for Insur- 




Stock and Material. 


1,305,100.00 


ance 


105,500.00 


Supplies 


195,300.00 


Donated Capital . 


220,000.00 


Furniture and Fix- 




First Mortgage 




tures 


161,000.00 


Bonds 


5,000,000.00 


Patents, Patterns, 




Authorized Capital 




and Tools 


674,500.00 


Stock Preferred.. 


8,000,000.00 


Buildings and Plant. 


4,950,000.00 


Authorized Capital 




Sinking Fund Trus- 




Stock Common... 


8,000,000.00 


tee 


740,000.00 






Incorporation Ex- 








penses 


225,000.00 






Discount on Bonds. 


100,000.00 






Treasury Stock..,.. 


220,000.00 






Unissued Bonds 


925,000.00 






Unissued Preferred 








Stock 


200,000.00 






Unissued Common 








Stock 


700,000.00 






Mitchell .& Stevens, 








Bankers 


600,000.00 






Good- Will* 


3,518,200.00 


$ 




$23,456,900.00 


23,456,900.00 



* Comprising the good-will of the Long Company, the Vine Company, and of 
Bell & Davis. The good-will of the Bain Company is included in the account 
of the Bain branch plant, shown under "Investments." 



428 CORPORATE COMBINATIONS 

§ 352. Consolidation by Purchase 

Under this plan of merger (§ 326), one company pur- 
chases outright the properties of one or more companies. 
The general plan and the book entries involved do not 
differ materially from those already fully explained under 
consolidation by merger, except that in an outright pur- 
chase there need not be any application to the state other 
than for dissolution of the selling companies. They 
surrender their charters to the state according to pre- 
scribed legal procedure. 



CHAPTER XXX 

CONSOLIDATION BY LEASE 

§ 353. Leases 

A common method of securing control of a competing 
concern is to rent its plant or property for a term of years 
— a plan extensively used by transportation companies to 
gain possession of connecting lines. By this method com- 
petition is eliminated and the lessee company obtains 
valuable connections and a going business without 
incurring the cost and delay of building operations. The 
lessor, on the other hand, besides being relieved of the 
operation of its properties, may receive more satisfactory 
returns in the form of rentals. 

Leases commonly run from 1 to 50 years, but may 
extend to 99 years, and occasionally to 999 years; such a 
lease is equivalent to permanent ownership, so much so 
that the operating company may improve the properties 
without any hesitancy. Short term leases usually include 
the option of a renewal on the same or on specified terms. 
The lessor company, as a rule, continues to maintain its 
separate existence, but its activities consist merely in 
receiving and disbursing moneys in the form of expenses, 
dividends, etc. 

Nearly all leases require the operating company to pay 
taxes, insurance, and up-keep expenses of the leased 
properties, and to undertake other obligations of a more 
or less rigid nature. In mining operations the terms of 
the lease usually require the payment of a certain amount 
per ton on the output of ore, with a specified minimum 

429 



430 CORPORATE COMBINATIONS 

output, while in the case of a railroad or similar property 
the payment is likely to be a specified rental or a guar- 
anteed dividend on the lessor's outstanding stock, with 
perhaps some participation in profits. 

The lessor is given access to the accounts and records 
of the lessee as far as they relate to the leased property 
during the life of the lease. Leases of large properties 
are usually matters of public record and the details thereof 
accessible to the public. 

§ 354. Entries for Property Leased 

Leased properties continue in the ownership of the 
lessor and must be returned at the expiration of the lease. 
Where the properties taken over are of such a nature 
that they are merged and perhaps consumed, as for in- 
stance, equipment and supplies, the lessee usually absorbs 
them into its own accounts and at the expiration of the 
lease either pays for them in cash or returns other 
equivalent assets. The assets so absorbed may be charged 
to the property accounts already in the ledger and credited 
to the lessor, or else be charged to separate accounts. 

The record of leased property stands as entered until 
the lease expires, while repairs and minor improvements 
on the property are usually charged to operating ex- 
penses. Permanent improvements would usually be 
charged against the lessor, the matter being determined 
by the terms of the lease. On the balance sheet, leased 
properties and the owner's credits may appear among the 
assets and liabilities as cancelling amounts, or may be 
entered on both sides "in short," in order to indicate 
their relation to other items; or they may be mentioned 
in a footnote to the balance sheet, or even be omitted 
entirely. If they are merged and included in the lessee's 
properties, a footnote may or may not be necessary, but 



CONSOLIDATION BY LEASE 43I 

in that case the lessor's account must be included in the 
liabilities. 

Corresponding, though reverse, entries should be made 
on the books of the lessor for the properties conveyed by 
the lease, in case it is decided to make book entries at all. 
It would seem good practice to debit the leasing company 
and credit the property leased, but, if all the property 
owned by the lessor is taken, there would be nothing 
gained by so doing. This entry would, of course, be 
suitable where only a part of the property is conveyed, 
in order to distinguish between properties leased to others 
and properties operated. 

§ 355. Entries for Guarantees 

When guarantees of interest or dividends are included 
in the terms of a lease, book entries are not absolutely 
necessary to record the contingent liability incurred; and 
yet it is good business practice so to record such lia- 
bilities as to keep the obligation continually before the 
stockholders. 

The Pennsylvania Railroad Company does not enter 
such guarantees in its ledger accounts, but in its annual 
report a complete list of them is included. If book entries 
are made for guarantees, they must obviously be for record 
only, because as contingent entries they would offset each 
other in the accounts. In the annual balance sheet they 
should be exhibited either among the accounts (in short 
or otherwise), or as a footnote thereto. 

§ 356. Lease Terms 

To illustrate the entries required when properties are 
leased by a corporation, assume that the Vermont Mining 
and Smelting Company has leased a mine from the Union 
Mining Company for a term of thirty years. The prop- 



432 



CORPORATE COMBINATIONS 



erties taken over comprise the mine, valued at $400,000, 
buildings and equipment valued at $30,000, and supplies 
valued at $8,500. At the termination of the lease the 
properties are to be returned to the Union Mining Com- 
pany in as good condition as when taken over, except as 
to the ore mined. The Vermont Mining and Smelting 
Company agrees to pay as rental for the mine a guaranteed 
annual dividend of 4% on the Union Mining Company's 
capital stock of $1,000,000 during the life of the lease, and 
a royalty of 10 cents per ton for every ton of ore mined. 

The Vermont Mining and Smelting Company leases 
also a short railroad and its equipment, valued at 
$3,000,000, of the Wilson Transportation Company. The 
lease is to run for thirty years, at the end of which time 
the property is to be returned in good condition. The 
lessee is to guarantee during the existence of the lease an 
annual dividend of 6% on the capital stock ($2,000,000) 
of the lessor company as rental, and is in addition to pay 
all taxes, improvement expenses, and interest on the out- 
standing bonds, and to make all needed replacements. 

The Vermont Company finds it necessary to expend 
for improvements on the Union Mining Company property 
$100,000, and on the railway $400,000; and in order to 
secure funds for this, the company issues $500,000 of 
short term notes payable $100,000 each year for five years 
and drawing 6% interest. The notes are secured by a 
deposit with the trustee of $500,000 stock of the Lone 
Ridge Mines Company, a successful subsidiary. The notes 
are sold at 95 to a banking firm. 

The output of ore from the leased mine during 1916 
is 122,000 tons, and the net income therefrom to the 
lessee after paying operating and repair expenses is 
$85,000, out of which the rental must be paid. The Union 
Mining Company is able, out of the rental received, to 



CONSOLIDATION BY LEASE 433 

apply 3% of the value of the mine leased on its extinguish- 
ment fund and also to apply to the dividend fund 2 1/2% 
on its capital stock. 

The operations of the leased railway for the year are 
shown in the following summary: 

Gross Freight Earnings $750,000.00 

Operating Expenses. $230,000.00 

Replacements and Repairs 145,800.00 

Improvements, etc., charged off 14,000.00 

Guaranteed Dividend to Lessor 120,000.00 509,800.00 

Net Earnings $240,200.00 

The accounting procedure to be considered in con- 
nection with the foregoing transactions involves entries 
for: 

1. Lease of the mine and equipment. 

2. Lease of the railway and equipment. 

3. Issue of notes and expenditures for improvements 

on leased properties. 

4. Distribution of rentals of leased properties at 

end of first year. 

5. Union Mining Company at the beginning and 

end of the first year. 

6. Wilson Transportation Company at the end of 

the year's operations under the lease. 

§ 357. Entries for Lease of Mine 

It is natural to suppose that the lessee will aim to secure 
from the mine during the life of the lease, all of its ore, 
unless the lease contains some limitations. The outlay 
for improvements and extensions made by the lessee must 
be written off during the life of the lease as operating 
expenses, excepting as to any movable equipment belong- 
ing to the lessee. The mine buildings and equipment are 



4 34 CORPORATE COMBINATIONS 

valued at $30,000, and must be returned when the lease 
expires. The supplies taken over are valued at $8,500, 
and must be made good when the lease expires. Assuming 
that the Vermont Company decides to bring these prop- 
erties into its own accounts, the following entry is made: 

Leased Properties of Mining Company $438,500 

To Union Mining Company for Leased 

Properties $438,500 

For mine, valued at $400,000, buildings and 
equipment at $30,000, and supplies at $8,- 
500, taken over under thirty-year lease, to 
be returned at expiration thereof. 

It will be seen that one entry offsets the other. They 
must stand thus in the ledger accounts until the lease 
matures and then be eliminated by a counterbalancing 
entry. 

Under an alternative plan that is also good practice, 
no entry in the books is necessary for the leased proper- 
ties, save the record of the transaction in the minutes of 
the directors and stockholders. 

The improvements on the mining property, costing 
$100,000, should be charged to ''Improvements Account 
of Union Mine," and then written off one-thirtieth each 
year during the life of the lease. Any improvements of 
succeeding years may be spread over the remaining years 
of the lease's existence. Expenditures for the up-keep of 
buildings and equipment, replacements and supplies, 
should be charged like the regular company expenses to 
Operating Expense account. 

§ 358. Entries for Lease of Railway 

The same general accounting procedure may be fol- 
lowed for the leased railway property as for the leased 
mine. Both road and equipment must, of course, be kept 



CONSOLIDATION BY LEASE 



435 



in good condition during the tenure of the lease. The 
value of the road taken over may or may not be entered 
upon the books of the lessee, but it is advisable to enter 
the equipment. All expenditures for extensions or 
improvements must obviously be spread over the life of 
the lease; while up-keep and operating expenses are con- 
sidered as current charges. The guaranteed 6% dividend 
of $120,000 per year should also be considered a charge 
against operations. 

Leased Equipment of Wilson Transportation 

Company $ 

To Wilson Transportation Company, 

Leased Equipment $ 

For equipment taken over under lease, to 
be returned at the expiration thereof 
(full details). 

It is probable that rolling stock and any other prop- 
erties of the lessee company used in the operation of the 
railroad property will be transferred to the leased road, 
and then taken back at the expiration of the lease. 

§ 359. Entries for Improvements and Note Issue 

The expenditures for improvements on leased prop- 
erties should be charged against the improvement 
accounts of the respective properties in order to keep 
the different expenditures separate and distinct. The 
security back of the note issue should be listed separately 
in the explanation of the journal entry, or else a notation 
should be made stating the disposition of the collateral. 
Everything must be so recorded as to be clearly under- 
stood. Interest on the notes and the amortization of 
bond discount must be charged each year as operating 
expenses of the business. The recording entries may be as 
follows : 



43 6 CORPORATE COMBINATIONS 

Cash $475,000 

Bond Discount 25,000 

To Collateral Serial Notes $500,000 

For sale to bankers at 95 of $500,000 of 
short term 6% notes, payable $100,000 
each year for five years, secured by a 
deposit with the trustee of $500,000 stock 
of the Lone Ridge Mines Company. 

Pledged Securities for Serial Note Issue $500,000 

To Stocks of Other Companies $500,000 

(Full explanation required here.) 

Union Mine Improvements $100,000 

Wilson Railway Improvements 400,000 

To Cash $500,000 

(Full explanation required here.) 

§ 360. Adjusting Entries at End of First Year 

The entries which follow indicate adjustments at the 
end of one year on the books of the Vermont Mining and 
Smelting Company. Only such entries are shown here as 
affect the accounts of the properties leased; interest on 
bonds, etc., being omitted. 

December 31, 1916 

Union Mine Operating Account $3,500.00 

Wilson Railway Operating Account 14,000.00 

To Union Mine Improvements $3*333-33 

" Wilson Railway Improvements.... 13*333-33 

" Bond Discount 833.34 

To write off 1/30 of improvements and 
bond discount in proportion to the im- 
provements, 1/5 and 4/5, as follows: 

Improvements cost $500,000 

Bond discount 25,000 

Total $525,000 






CONSOLIDATION BY LEASE 



437 



Union Mine Operating Account $52,200 

To Union Mining Company $52,200 

For royalties and guaranteed dividends on 
leased mine for 1916, as per terms of 
lease, being 10 cents per ton on 122,000 
tons ore mined, $12,200, and 4% dividend 
on $1,000,000 of capital stock, $40,000. 



Wilson Railway Operating Account $120,000 

To Wilson Transportation Company. . . . $120,000 

For application of guaranteed 6% dividend 
on company's outstanding stock after pay- 
ment of taxes, improvements, operating 
repairs, etc., according to the terms of the 
lease. 6% on $2,000,000 capital stock 
= $120,000. 

Union Mining Company $52,200 

Wilson Transportation Company 120,000 

To Cash $172,200 

For payment of royalties and dividends for 
leased properties, as per statement. 



Union Mine Operating Account $29,300 

Wilson Railway Operating Account 240,200 

To Profit and Loss $269,500 

For net earnings after paying royalties and 
guaranteed dividends as per agreement. 

§ 361. Entries for Union Mining Company 

There may or may not be entries made on the books 
of the lessor company at the time of executing the lease. 
The following entries are suggestive, though a different 
plan might be followed. Only the accounts affected by 
the lease are included in the entries, no attention being 
given to accruals or intermediate entries. 



438 



CORPORATE COMBINATIONS 



Entry when lease is made: 

January i, 1916 

Properties Leased to Vermont Mining and 

Smelting Company $438,500 

To Mining Property $400,000 

" Buildings and Equipment 30,000 

u Supplies 8,500 

For lease of properties to Vermont Mining 
and Smelting Company as per terms of 
the lease (full explanation). 

Entries at end of first year: 

December 31, 1916 

Cash $52,200 

To Income Account $52,200 

Income from mine and properties leased to 
Vermont Mining and Smelting Company, 
as per terms of the lease : 
122,000 tons of ore mined, at 10 

cents per ton $12,200 

Guaranteed dividend on capital 

stock 40,000 

Total rental for year $52,200 



.Income Account $52,200 

To Extinguishment of Mines Reserve. . $12,000 

" Dividend Account 25,000 

" Profit and Loss 15,200 

For disposition of income from leased prop- 
erties. 

§ 362. Balance Sheet of Union Mining Company 

The balance sheet of the Union Mining Company at 
the end of the first year, December 31, 1916, would appear 
as follows : 






439 



CONSOLIDATION BY LEASE 

Union Mining Company 
Balance Sheet, December 31, 19 16 

(One year after properties were leased to the Vermont Mining and 
Smelting Company) 



Assets 




Mines, Buildings, and 




Real Estate 


$430,000.00 


Properties Leased to 




Vermont Mining and 




Smelting Company.. 


438,500.00 


Supplies and Fixtures. 


77,000.00 


Inventory of Ore at 




Mines and Docks 


254,600.00 


Accounts Receivable . . 


318,250.00 


Cash 


377,520.00 


Prepaid Charges 


36,146.00 


Incorporation Expenses, 




Balance 


23,200.00 


$ 


[,955,216.00 



Liabilities 

Mortgage Payable $150,000.00 

Temporary Bank Loans 75,000.00 

Accounts Payable 231,450.00 

Accrued Pay-Roll 17,240.00 

Accrued Charges and 

Interest ; 26,385.00 

Reserve for Extin- 
guishment of Mines. 12,000.00 

Reserves for Sundry 

Purposes 57,936.00 

Dividend Account 25,000.00 

Capital Stock Out- 
standing 1,000,000.00 

Surplus 360,205.00 

$1,955,216.00 



Note: Net income from leased properties, $52,200, applied to re- 
serve for extinguishment $12,000, to Dividend account $25,000, and to 
Surplus $15,200. 

§ 363. Entries for Wilson Transportation Company 

Since all of the property, road bed, and equipment of 
the railway has been leased to the Vermont Mining and 
Smelting Company, it is apparent that no separate entries 
are necessary in the accounts of the Wilson Transportation 
Company. The property accounts stand as they are on the 
books, representing as they do the investment therein. 
At the end of the year, however, entries must be made in 
the books to record the dividends guaranteed by the Ver- 
mont Mining and Smelting Company. 



440 



CORPORATE COMBINATIONS 



December 31, 1916 

Cash $120,000 

To Income Account $120,000 

Being guaranteed income from road and 
equipment leased to Vermont Mining and 
Smelting Company, as per terms of the 
lease. 

Income Account $120,000 

To Dividend Account $120,000 

For dividend guaranteed by the lessee, Ver- 
mont Mining and Smelting Company, 
payable January 25, 1917. 



CHAPTER XXXI 

HOLDING COMPANIES 

§ 364. Classification of Holding Companies 

The holding company is a corporation formed for the 
purpose of purchasing the securities of other corporations. 
It furnishes an effective method for the consolidation of 
various companies engaged in the same or related lines of 
business, and the elimination of competition. 

Holding companies may be divided into two classes: 

1. Those organized to control other companies in 

similar or associated enterprises, by purchasing 
a controlling interest in the stock of such 
companies. 

2. Those formed to invest capital in the securities 

of other companies, though not necessarily to 
the extent of securing control; such invest- 
ments may be spread over non-competitive 
lines of industry, and may include bonds as 
well as stock. 

§ 365. Controlling Corporations 

Where the state laws permit, any company whose 
charter so provides, may purchase the stocks and bonds 
of other companies. A company may therefore be both 
an operating and a holding company. For the purpose 
of securing control of another corporation, it is customary 
to purchase at least 51% of its outstanding stock having 
voting rights, though sometimes a much smaller propor- 

441 



442 



CORPORATE COMBINATIONS 



tion may be sufficient for effective control. It has been 
stated by high authority that 33% of its stock is sufficient 
to control almost any important railway, owing to the wide 
distribution of the securities of such companies. There are 
many instances where the management of banks and 
industrial companies has been maintained by a unified 
minority. 

§ 366. Status of the Subsidiary Company 

The sale of the stock of a company to a holding com- 
pany in part, or even in whole, does not necessarily affect 
its accounting, save as to the record of stock transferred. 
Nor is its legal status changed in any way, though it 
may, as a matter of fact, have become a subsidiary under 
the control of the holding company. The most notable 
example of holding and subsidiary companies is perhaps 
found in the case of the United States Steel Corporation 
which is not an operating company. All dividends de- 
clared by the constituent or operating companies are 
paid to their own stockholders; and the holding company, 
though controlling these constituent companies, benefits 
by such dividends only as a stockholder and to the extent 
of its holdings of their stock. 

§ 367. Legality of Holding Companies 

Many states prohibit the organization of holding com- 
panies, while others afford especially favorable facilities 
for their formation. A holding company may be incor- 
porated in a state which permits such incorporation, and 
then lawfully conduct operations through its constituent 
companies within states prohibiting its existence. The 
laws of Missouri, for instance, prohibit holding companies, 
while the laws of New Jersey permit them; and, as a 
company organized in one state may by comity do business 



HOLDING COMPANIES 443 

in another, a holding company organized in New Jersey 
may carry on operations through its constituent com- 
panies in Missouri. For this and other reasons federal 
control of combinations has been advocated. 

In 1890 Congress passed the Sherman Anti-Trust Act, 
under which every contract or combination in restraint 
of trade is declared illegal. Under its provisions some of 
the largest combinations have already been dissolved. By 
the passage of the Clayton law in 1914, Congress has 
undertaken to control more effectively such combinations 
as come within federal jurisdiction. 

§ 368. Accounting Procedure of Holding Company 

The example which follows shows the accounting 
procedure involved where a corporation has been organized 
for the sole purpose of purchasing the stocks and bonds 
of other companies. 

The Harlow Manufacturing Company was incorporated 
July 1, 191 6, for the purchase of stocks and bonds of other 
established companies as a means of providing income and 
of harmonizing conflicting interests. The capital stock 
is $1,000,000, composed of 10,000 shares of the par value 
of $100 each, and $950,000 of this capital stock has been 
subscribed and paid in. Incorporating expenses amount 
to $10,000. The proceeds from the stock subscriptions have 
been used for the purchase of securities as of July 1, 19 16, 
as follows : 

1. $100,000 of 5% first mortgage bonds of the Vulcan Iron 

Works at 95 and accrued interest for three months. . . . $96,250.00 

2. $200,000 of refunding 5% first mortgage bonds of the 

Rapid Transit Corporation at 98 and accrued interest 

for three months 198,500.00 

3. 2,000 shares of 7% cumulative preferred stock of the 

Longworth Steel Company at 105, ex-dividend 210,000.00 



444 CORPORATE COMBINATIONS 

4. 500 shares of 6% preferred stock of the Brownson Trad- 

ing Company at 96 and accrued dividend for six 

months due this day 49,500.00 

5. 3,000 shares of common stock of the Rockway Iron Min- 

ing Company at par, payable one-half down and the 

balance in three months 300,000.00 

6. 1,000 shares common stock of the Delaware River Power 

Company in exchange for a similar number of shares 

of this Company 100,000.00 



$954,250.00 



Dividends and interest received for the six-months 
period ending December 31, 19 16, amount to $27,000; bond 
interest accrued amounts to $3,750; and accrued cumulative 
dividends, to $1,500. The operating expenses for this 
period aggregate $2,800. A dividend of 2% on the com- 
pany's stock, payable January 15, 191 7, is declared by the 
directors at their meeting on December 31, 1916. All 
investments are to be carried on the books at the purchase 
price. The incorporating expenses are to be written off 
over a period of ten years. 

§ 369. Accounting Requirements 

The entries to record properly the transactions of this 
example are simple and need not be set out in full. The 
procedure and book records required at the time of in- 
corporation have already been fully explained. When 
stocks of other companies are purchased, it is customary 
to debit them at the cost price to some suitable account, 
as ''Investments," "Stock Investments," or "Stocks of 
Other Companies." A like procedure is followed in the 
purchase of bonds of other companies, substituting the 
word "Bond" for "Stock." Sometimes both stocks and 



i 



HOLDING COMPANIES 



445 



bonds are included in one account, but when this is done a 
special record is kept to show the details of the various 
securities. 

Accrued dividends on stock investments should, if 
entered at all, be debited to "Accrued Dividends" account; 
and likewise, accrued interest on bonds, to an "Accrued 
Bond Interest" account. The income from such invest- 
ments may be credited to a general "Income" account, or 
separately to suitable accounts which distinguish between 
stock dividends and bond interest. 

The income and expenditures and the resultant assets 
and liabilities of this company at the close of the first 
half-year are reflected in the accompanying income account 
and balance sheet: 

Harlow Manufacturing Company 
Income Account 

For Six Months Ended December 31, 1916. 



Debits 

July 1, 1916 

Bond Interest Accrued. . $3,750.00 

Dividends Accrued 1,500.00 

Balance (Income for Six 

Months) 27,000.00 



$32,250.00 



General Expenses $2,800.00 

Incorporating Expenses 

Written Off 1,000.00 

Net Income for Period. 23,200.00 



$27,000.00 



Credits 
December 31, 1916 
Preferred Dividends Re- 
ceived $8,500.00 

Preferred Dividends Ac- 
crued 1,500.00 

Bond Interest Received. 7,500.00 
Bond Interest Accrued. . 3,750.00 
Dividends 1 1,000.00 



$32,250.00 



Income brought down. .$27,000.00 



$27,000.00 



Balance $23,200.00 



446 



CORPORATE COMBINATIONS 



Balance Sheet, December 31, 1916 

(End of first six-month period) 



Assets 


Liabilities 




Cash on Hand $9,950.00 


Capital Stock: 




Investments : 


Authorized $ 


1,000,000.00 


Bonds of Other Com- 
panies 291,000.00 


Unissued 


50,000.00 






Stocks of Other 


Outstanding 


$950,000.00 


Companies 658,000.00 


Dividend No. 1 pay- 




Bond Interest Accrued. 3,750.00 


able January 15, 1917 


19,000.00 


Dividends Accrued.... 1,500.00 


Undivided Profits 


4,200.00 


Incorporation Expenses, 






Balance 9,000.00 






$973,200.00 


$973,200.00 



§ 370. Operating Company Purchasing Controlling Interest 

As was stated above, the holding company is usually 
created for the sole purpose of buying the stock of a num- 
ber of existing corporations and thereby to exercise control 
in their management. This, however, is not always the 
case. 

In the following example the purchasing company is 
itself actually engaged in operating its plants, but by the 
purchase of stock it secures control of a company engaged 
in producing an article needed by it in the manufacture 
of railway equipment. 

The United Equipment Company has purchased 
$1,500,000 of the outstanding stock of the Nelson Car 
Wheel Company at 105, ex-dividend. As payment 
therefor it is to give $1,000,000 of its unissued common 
stock at 125, $150,000 of its unissued preferred stock at 
no, and the balance in cash. The financial statement of the 
Nelson Car Wheel Company and the balance sheet of the 
United Equipment Company are as follows: 



HOLDING COMPANIES 



447 



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448 



CORPORATE COMBINATIONS 

United Equipment Company 
Balance Sheet, July i, 191 6 



Assets 




Liabilities 


Property, Plants, and 




Capital Stock — Pre- 




Equipment 


$8,324,500.00 


ferred 


$4,000,000.00 


Inventories of Stock 




(Authorized $5,000,000) 


and Material 


3,240,800.00 


Capital Stock — Com- 




Investments in Stocks 




mon 


7.000.000.00 


and Bonds of Other 




(Authorized $10,000,000) 


Companies 


2,160,000.00 


First Mortgage 5% 




Cash on Hand and in 




Twenty-Year 




Banks 


895,940.00 


Bonds, Outstand- 




Accounts Receivable 


2,560,300.00 


standing 


2,500,000.00 


Notes and Loans Re- 




(Authorized $5,000,000) 


ceivable 


1,343,400.00 


Notes and Bank 




Sinking Fund Deposit 




Loans 


1,680,000.00 


with Trustee 


326,900.00 


Accounts Payable. . . 


1,740,300.00 


Other Assets 


857,190.00 


Accrued Interest, 








Taxes, etc 


172,100.00 






Dividends for Half- 








Year, Unpaid 


420,000.00 






Sundry Reserves 


996,630.00 






Surplus 


1,200,000.00 




* 




$19,709,030.00 


;i9,709,030.oo 



I. 



The points of interest in the present illustration are: 

The entries on the books of the United Equip- 
ment Company for the purchase of stock. 

The entries on the books of the Nelson Car 
Wheel Company. 

The consolidated balance sheet of the two com- 
panies after the transfer of stock, showing the 
condition of the United Equipment Company. 

The entries required and the consolidated balance sheet 
of the two companies are shown on the following pages. 



3- 



HOLDING COMPANIES 



449 



§ 371. Entries on Books of Purchasing Company 

The only entries on the books of the United Equip- 
ment Company are in the accounts relating to capital, 
cash, investments, and stock premium; the accompanying 
entries show how the transaction should be handled. The 
premium of $75,000 on stock purchased is included in its 
cost and charged to Investments, thus reflecting as nearly 
as possible the market value of the stock; it would not 
be wrong to charge this amount against the Stock 
Premium account which now shows a credit of $265,000 
taken upon the sale of the company's own stock, leaving 
a balance of $190,000. 

First Entry 

Investments in Subsidiary Companies $1,575,000 

To Stockholders of Nelson Car Wheel 

Company $1,575,000 

For purchase of 15,000 shares, par value 
$1,500,000, of the capital stock of the 
Nelson Car Wheel Company at 105, 
to be paid for as follows : 
10,000 shares common stock 

at 125 $1,250,000 

1,500 shares preferred stock 

at 1 10 165,000 

Cash for the balance 160,000 



Total investment $1,575,000 



Second Entry 

Stockholders of Nelson Car Wheel Company $1,415,000 

To Capital Stock — Common $1,000,000 

" Capital Stock — Preferred 150,000 

" Premium on Stock Sale 265,000 

For issue of stock to the vendors of the 
Nelson Company stock, as above. 



45o 



CORPORATE COMBINATIONS 



Third Entry 

Stockholders of Nelson Car Wheel Company $160,000 

To Cash $160,000 

For settlement of balance on stock pur- 
chased of sundry stockholders. 

As a result of the above entries, the cash of the pur- 
chasing company is reduced to $735,940, investments 
increased to $3,735,000, outstanding common stock 
increased to $8,000,000, outstanding preferred stock in- 
creased to $4,150,000, and stock premium credited for 
$265,000. All other items in the balance sheet remain as 
previously stated. New certificates of stock must now be 
issued to the selling stockholders of the Nelson Car Wheel 
Company. Suitable entries must also be made in the 
official records of the company, comprising the minute 
book, stock register, and stockholders ledger. 

§ 372. Entries on Books of Selling Company 

No entries for the sale of its stock are required on the 
books of account of the Nelson Car Wheel Company. The 
sale was a personal matter with the stockholders of that 
company and one in which no official action is required 
by the board of directors. Any necessary entries must, of 
course, be made in the transfer book and stock book, and 
new certificates be issued in exchange for those cancelled. 
If for convenience or any other reason the transaction 
were handled as a company matter, the entries in the 
general ledger might be as follows : 

July 1, 1916 
Stock Clearing Account (or United Equip- 
ment Company) $1,575,000 

To Sundry Stockholders $1,575,000 

For sale of $1,500,000 stock of this Com- 
pany by sundry stockholders to the 
United Equipment Company at 105. 



HOLDING COMPANIES 45I 

Stock of United Equipment Company $1,415,000 

Cash 160,000 

To Stock Clearing Account (or 

United Equipment Company) $1,575,000 

Stock of the United Equipment Company, 
and cash received in exchange for 
$1,500,000 of stock of this Company, 
as above, being as follows : 
10,000 shares common stock 

at 125 $1,250,000 

1,500 shares preferred stock 

at 1 10 165,000 

Cash for the balance 160,000 

Sundry Stockholders $1,575,000 

To Stock of United Equipment Co.. $1,415,000 

" Cash 160,000 

For stock received as above and cash 
turned over to the sundry stockhold- 
ers, as per agreement. 

§ 373- The Consolidated Balance Sheet 

The consolidated balance sheet shown herewith con- 
tains the assets and liabilities of both companies. This 
plan of including in one statement the items of a main 
company and its various subsidiaries is now in general 
use (Chapter XXXII). It will be seen that the combined 
balance sheet includes only the two stated companies, 
while the United Equipment Company's holdings of stock 
in other companies are shown in the Investments account. 
It is obvious, however, that this account would not include 
the stock of companies whose statements are included in 
the consolidated balance sheet. Even the bond investment 
of $250,000 might be deducted from the Investments 
account and shown separately or even deducted from the 
outstanding bonds; but for the purpose of illustration it 
remains in the present consolidated balance sheet. 



452 



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CORPORATE COMBINATIONS 



§ 374. Parent Companies 

A useful variant of the holding company is frequently 
employed to advantage in the exploitation of inventions. 
A parent corporation in which the patent rights for such 
inventions are vested, is formed in some selected state 
where the power to hold the stock of other corporations 
is legal. Subordinate companies are then formed in the 
several states to operate in specified territorial districts, 
and to these companies rights in the inventions are as- 
signed for their respective districts, the parent company 
usually reserving or acquiring a controlling interest in 
each subordinate company. The patent rights may be 
sold outright to the sub-companies, or leased on a royalty 
basis; or perhaps a mere license may be issued. The 
subordinate company then operates in its own territory 
under the general direction of the parent company. 

Under this plan the parent corporation makes certain 
the proper fulfilment of its contracts with the subordinate 
companies, and also insures the proper harmonizing con- 
duct of general business.* A well-known example is that 
of the Packard Motor Car Company; its various sales 
branches throughout the country are separately incor- 
porated companies, of which a majority interest is vested 
in the parent company. The term "parent" is frequently 
used, however, for any corporation that owns or controls 
underlying companies. 

Each investment made by the parent company in an 
underlying company's stock may be charged to "Invest- 
ments" account, or to a special account carrying the name 
of the particular stock purchased, as "Stock of Canadian 
Potato Digger Company." Sales of machines may be 
made to subordinate companies on liberal terms of credit, 



*For a discussion of this subject, see People v. American Bell Telephone Co. 
117 N. Y. 241 (1889). 



HOLDING COMPANIES 



455 



and settlements made at convenient times as collections 
are made from purchasers. The parent company's income 
is derived from sales to subordinates, from royalties re- 
ceived from subordinates, and from dividends on its 
investments in the various companies. 



CHAPTER XXXII 

CONSOLIDATED BALANCE SHEETS 

§ 375- Purposes of Consolidated Balance Sheet 

A consolidated balance sheet is one that includes or 
combines the balance sheets of several different concerns. 
Many large corporations own or control a number of smaller 
companies, and, though each may have its own statement, it 
is frequently necessary or desirable to present all the finan- 
cial details in one balance sheet, in order to reflect the 
financial position of the whole group of affiliated companies 
as one undertaking. The assets and liabilities of the con- 
stituent companies are therefore included with those of the 
controlling company, after eliminating therefrom the inter- 
company stocks, bonds, and accounts which indicate the 
relation of one company to another. Such a balance sheet 
has already been given (§ 373). The general balance sheet 
of the United States Steel Corporation is an excellent 
example of a consolidated statement, combining as it does 
the statements of a number of subsidiary companies. 

§ 376. Contents of Consolidated Balance Sheet 

The contents of a consolidated balance sheet are prac- 
tically the same as that of a single company. There are, 
however, certain points peculiar to such statements which 
require special attention. They are as follows : 

1. Intercompany obligations — existing debts among the 
constituent companies for goods sold, for advances made 
to one another, and for bond interest accrued, or declared 
dividends — being offsetting assets and liabilities, are usually 

456 



CONSOLIDATED BALANCE SHEETS 



457 



eliminated from the combined statement, though they are 
sometimes included, either separately or with other current 
items. 

2. Guarantees, leases, and other contracts existing be- 
tween the parent company and subsidiaries, are shown in 
the balance sheet among the assets and liabilities or as foot- 
notes. The frequent exchange of collateral between the 
parent and subsidiaries, for accommodation purposes, or 
otherwise, is also a matter of importance. 

3. The extent of ownership in the subsidiary com- 
panies' stock — whether the parent company owns all, a 
controlling interest, or only a portion thereof — and the 
extent of ownership by the underlying companies in the 
stock of the parent company or of the other companies, 
should be clearly stated, either in the balance sheet or in a 
supporting schedule. The minority interest in surplus 
profits is sometimes indicated also. 

4. The parent company's ownership of bonds of the 
subsidiary companies, and vice versa, should also be shown. 

§377. Preparation of Consolidated Balance Sheet 

The manner of assembling and combining the items of 
several component companies into a consolidated balance 
sheet is shown in the following example. Three companies, 
X, Y, and Z, are used in the illustration, the first being 
purely a holding company, and the other two, subsidiary 
operating companies. Intercompany stock holdings and 
current obligations that require careful handling are 
included. 

Form A, on the following page, shows how the ac- 
countant or corporation official gathers details and makes 
deductions on his "working papers," "working sheets," or 
"analysis sheets," preparatory to his final exhibit. The 
assets and liabilities are shown separately and combined. 



45« 



CORPORATE COMBINATIONS 



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CONSOLIDATED BALANCE SHEETS 459 

The eliminations of intercompany items in arriving- at the 
net results are also shown. In the preparation of consoli- 
dated balance sheets, the statements of the several companies 
are prepared separately and then brought together, as shown 
in this form. 

The details shown in the columns of Form A are used 
as a basis for illustrating different ways of making up con- 
solidated balance sheets, as shown in Forms B and C of the 
present chapter. In the process of reducing the various 
units to a common basis, it is necessary to make certain 
cancellations, as indicated in the fifth and sixth columns of 
Form A. 

§ 378. Consolidated Balance Sheet with Intercompany 
Details 
Form B, which follows, is a very simple example of a 
consolidated balance sheet, including all of the items of the 
several companies without any cancellation of intercompany 
debits and credits. The items are arranged very much as 
in the fourth column of Form A; in fact, where only two 
or three companies are concerned the combined information 
might be presented in a columnar exhibit comprising the 
first four columns of Form A as they stand. 

Among the assets are included $60,000 of advances to 
subsidiary companies and $27,000 of intercompany debts, 
the latter included with the sundry assets. These are like- 
wise shown as offsetting; liabilities. Taking" the entire 
matter as one concern, it will be seen that the company 
owes $87,000 to itself. The third form omits these items 
entirely but refers to them in memoranda or footnotes. 
Accountants sometimes consolidate only the accounts of the 
subsidiary companies, the balance sheet of the holding" 
company being presented separately in the ordinary or 
unconsolidated form. 



4 6o CORPORATE COMBINATIONS 

Form B 

Consolidated General Balance Sheet 

Of Company X and Subsidiaries Y and Z 

December 31, 1916 

(Presenting all accounts and intercompany details without cancellations) 

Assets 

Plant and Capital Assets $429,800.00 

Cash and Sundry Assets 200,100.00 

Material, Supplies, and Goods in Process 510,000.00 

Prepaid and Deferred Charges 77,900.00 

Advances to Subsidiary Companies 60,000.00 

Investments in Stocks and Bonds of Affiliated Companies* 430,000.00 

Total Assets $1,797,800.00 

Liabilities 

Capital Stock Outstanding: 

Of Company X $500,000.00 

Of Company Y 300,000.00 

Of Company Z 200,000.00 $1,000,000.00 

Bonds of Company Y 50,000.00 

Current Liabilities 471,100.00 

Advances and Intercompany Obligations 87,000.00 

Combined Surplus 189,700.00 

Total Liabilities $1,797,800.00 



§ 379- Consolidated Balance Sheet without Intercompany- 
Details 

The consolidated balance sheet of Form C, differs from 
Form B only in so far as intercompany holdings and obliga- 
tions are concerned, which are indicated in such a way as 
to make the combined statement clear and easily readable. 
In reducing the various units to a common basis, the re- 
quired cancellations are first made as indicated in Form A. 



*The investments may be stated separately if desired. 



CONSOLIDATED BALANCE SHEETS 



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462 CORPORATE COMBINATIONS 

Since the outside or minority stockholders of Company 
Y own five-twelfths of the capital stock, their interest 
therein and in the surplus profits is set forth separately. 
They also have an interest in the surplus of Company X 
which might be shown. If one-twentieth of Company X's 
surplus, or $4,060, belongs to Company Y, then the minority 
interests of the latter company own five-twelfths of this 
surplus, or $1,691.67. A comparison of Forms B and C 
will show the slight differences in arrangement, indicating 
as they do that form is not so important as clearness of 
expression and accuracy of results. 

§ 380. Additional Illustrations of Consolidated Balance 
Sheets 

The balance sheet on pages 464, 465, is that of a manu- 
facturing company, and shows an arrangement of details 
slightly different from those of Forms B and C. It will be 
noticed that the company's bonds to the value of $50,000 
are included in the assets and also in the liabilities, this 
amount being owned by a subsidiary. The stock holdings 
are indicated as a memorandum on each side, while the 
stock premium is included in the assets, thus indicating 
that the stock owned is worth more than par. This premium 
might be charged against surplus. If stock is purchased 
below par, the discount may be credited to surplus, provided 
said stock is really worth face value. A deficit of an under- 
lying company should be shown in the consolidated balance 
sheet as a deduction from surplus. 

The division of surplus profits between the holding com- 
pany and outside interests must obviously depend on the 
status of the preferred stock. The holders of such stock 
may or may not have an interest in excess profits over and 
above the dividend payments; therefore no division is 
attempted in this exhibit. 



CONSOLIDATED BALANCE SHEETS 



463 



Another balance sheet is given on pages 466, 467 : that 
of the Minnesota Lumber Company which owns and oper- 
ates ten retail yards and four subsidiary companies. In this 
statement the separate yards and underlying details are con- 
tained in supporting schedules. Each schedule assembles 
and exhibits all of the items of a similar nature on hand 
at the various yards and companies; Schedules 1 and 4 for 
cash and merchandise are cases in point. For example, 
Schedule 1 would show the cash and book balances, or over- 
drafts, at the various yards and companies as well as at 
the home office. Schedule 4 would in like manner show the 
location of all merchandise inventories and supplies of the 
various yards and companies. Otherwise, the balance sheet 
differs but slightly from the other forms presented in this 
chapter. By placing the capital and surplus profits after 
the liabilities instead of before, it is possible to show the 
"net worth" of the combined companies. 



464 



CORPORATE COMBINATIONS 





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4 68 CORPORATE COMBINATIONS 

§ 381. Consolidated Income Account 

The profit and loss accounts of the parent company 
and its various subsidiaries may, like the balance sheets, be 
combined in one comprehensive income statement or profit 
and loss account. This is a much simpler process, however, 
than the preparation of a consolidated balance sheet, since it 
contains no intercompany obligations or stock and bond 
holdings. It simply groups the similar items, though care 
must be exercised to see that profits taken on sales of 
materials and products among subsidiary companies are 
deducted, especially if these are still on hand and included 
in the latter's inventories. A columnar working sheet is 
generally used in combining the various items of income 
and expenditure, as already illustrated under the balance 
sheet. 



Part VII — Reorganizations, Receiverships, and 
Dissolutions 



CHAPTER XXXIII 

REORGANIZATION BY AGREEMENT 

§ 382. Definition of Reorganization 

"A reorganization of a corporation is a business arrange- 
ment (1) whereby the stocks and bonds of the company 
are rearranged as to amount, income, or priority, or (2) 
the property is sold to a new corporation for new stock and 
bonds, or (3) the property is sold by foreclosure of a 
mortgage upon it, and the purchaser buys for himself and 
such of the old stockholders and bondholders as he as- 
sociates with him."* 

§ 383. Methods of Reorganization 

According to the definition there are two kinds of re- 
organization by agreement. The first is a mere readjust- 
ment of the rights of the various parties interested, i.e., by 
the stockholders with the co-operation of the bondholders 
or other creditors, without forming a new corporation. 
The problems given in this chapter relate to such readjust- 
ments. 

The second involves the formation of a new corporation 
and the voluntary sale of all the property of the old cor- 
poration to it in return for its stocks and bonds. The 
subject of consolidation by merger and by purchase has 



'Cook on Corporations, § 883. 

469 



470 



REORGANIZATION 



been treated in Chapter XXIX, and the accounting prob- 
lems connected with this method of reorganization are 
essentially similar. 

Both of these methods are called reorganizations by 
agreement, in contradistinction to reorganizations as the 
result of legal compulsion where the corporation is insol- 
vent and its property may be sold to pay off the bondholders 
and creditors. 

When the property of a corporation is sold under fore- 
closure proceedings, the entity of the corporation does not 
pass. Whatever organization is effected by the purchaser 
to operate the plant, property, or business taken over, is 
practically a new organization free from all claim or lia- 
bility of the old corporation. The accounting problems 
relating to it are similar to the problems involved in opening 
the records of a new corporation. These have already been 
treated in Chapters XI, XII, XIII. 

A later chapter will deal with reorganization as the 
result of a receivership. 

§ 384. Reorganization by Reduction of Stock 

A reorganization by agreement involving some readjust- 
ment of the stock and bonds or both, usually requires the 
unanimous consent of all the stockholders if it is a stock 
readjustment, or of all the bondholders if it affects their 
rights. This would be the case if it were desired to increase 
or decrease the stock or to issue preferred stock. If the 
bondholders accept half cash and half a new issue of bonds 
for their existing securities, it would necessitate a readjust- 
ment of this kind. 

Such a readjustment could not be enforced against an 
objecting stockholder or bondholder. In some cases it is 
possible, however, for those holding the larger interests to 
buy out the smaller holders who are likely to object, if 



REORGANIZATION BY AGREEMENT 



471 



they are not too numerous or too unreasonable in their terms. 
A reorganization by agreement is a comparatively 
simple matter. If it involves an increase or reduction of 
capital stock, most of the states have prescribed procedure 
and forms for amending corporate charters that are neither 
costly nor complex. At common law no charter amend- 
ment was possible without consent of the legislature and 
usually of all the stockholders, but under modern procedure 
most amendments may be made by a majority or by two- 
thirds or three-fourths of the stockholders. A reduction 
of capital stock is not as simple as an increase, because in 
reducing stock, the rights of creditors must be considered, 
and the surrender of outstanding stock and the issuance of 
a less number of shares involve some cancellation and re- 
issue of stock to existing stockholders. Any amendment of 
the charter is a simple matter in a close corporation with 
few stockholders. In most of the states any desired amend- 
ment may be had by consent, notice and formal procedure 
being largely waived. 

§ 385. Balance Sheet Before Reduction of Capital Stock 

As an illustration of the procedure and book records 
required for reducing the capital stock of a corporation, the 
following example is given : 

The Swift Automobile Company whose statement is 
given below was formed by the merger of several automo- 
bile concerns. At the time of the combination, good-will 
was placed at $1,000,000 and surplus at $340,000. Since 
then regular dividends of y c /o on preferred and 5% on 
common stock have been paid, excepting the one recently 
declared and shown among the liabilities. An audit of the 
books made for the year ending June 30, 19 16, showed that 
obsolete properties, doubtful accounts, and valueless invest- 
ments to the amount of approximately $1,000,000 would 



472 



REORGANIZATION 



have to be written off. The following statement was sub- 
mitted by the accountants with the recommendation that the 
good-will be reduced to a conservative valuation : 

Swift Automobile Company and Branches 

Balance Sheet, June 30, 1916 

(Before Reduction of Capital) 



Assets 

Cost of Properties 
and Equipment, 
including Good- 
Will $4,500,000.00 

Securities Owned, 
of Subsidiary and 
Other Companies. 1,300,000.00 

Sinking Fund De- 
posit 220,000.00 

Cash 235,000.00 

Accounts Receivable 1,172,300.00 

Bills and Notes Re- 
ceivable 520,000.00 

Material Supplies 
and Finished 
Parts 981,600.00 

Contract Work in 
Course of Con- 
struction 476,300.00 

Accrued and Pre- 
paid Items 58,400.00 

Total Assets $9,463,600.00 

Notes Discounted 

(per contra) 850,000.00 



$10,313,600.00 



Liabilities 
Capital Stock: 

Preferred $1,000,000.00 

Common 3,000,000.00 

Total $4,000,000.00 

Bonds Outstanding. 2,500,000.00 

Short Term Notes. 500,000.00 

Accounts Payable. . 1,525,000.00 

Notes Payable 490,000.00 

Accrued Items 31,200.00 

Bond Interest, pay- 
able July 1, 1916. 62,500.00 
Dividend Declared 

and Unpaid 120,000.00 

Sundry Reserves... 189,000.00 

Total $9,418,600.00 

Indorsement on 

Notes Discounted 

(per contra) 850,000.00 

Balance, Profit and 

Loss Surplus 45,000.00 



$10,313,600.00 



§ 386. Accounting Requirements 

Following the suggestion of the accountants, the stock- 
holders in a special meeting called for the purpose, decided 



REORGANIZATION BY AGREEMENT 473 

to write off the entire $1,000,000 of good-will and to add 
$500,000 to the surplus by a reduction of the capital stock. 
The common stock, therefore, is to be reduced to $1,500,- 
000, while the cumulative preferred stock is to remain as 
before, and $500,000 is to be added to the surplus account. 

(a) State the procedure required to bring about these 
changes. 

(b) Give the book entries required to adjust the ac- 
counts in accordance with the resolutions of the directors 
and stockholders. 

§ 3 8 7- ( a ) Procedure 

The reduction of capital stock requires a charter amend- 
ment, which must be obtained from the state originally 
granting the charter and will require the aid of a lawyer. 
Prescribed procedure must be closely followed. 

§ 388. (b) Entries and Records 

Complete official minutes of the proceedings, resolutions, 
etc., must be kept in the minute books of both the directors 
and stockholders. All certificates of stock must be turned 
back to the company and interim receipts taken therefor 
pending the issue of new certificates. Sometimes a trustee 
is appointed for this purpose in case the company does not 
already have a regular fiscal agent or registrar upon whom 
this duty would devolve. The new common stock cer- 
tificates when issued will be for one-half the number of 
shares cancelled, so that each holder thereof will own 50% 
of his former holdings. This does not mean, however, that 
the company's actual net worth is less than under the former 
arrangement, nor that the holder of stock has lost anything 
by the charter amendment. His shares, while formerly 
valued below par, are now considerably above. The net 
worth of the company (capital and surplus) is now $3,045,- 



474 



REORGANIZATION 



ooo, so that each of the 15,000 shares of common stock 
has a book (or intrinsic) value of $136.33 per share. The 
book value of the preferred stock remains as before at $100 
per share. 

Each stockholder's account in the stock ledger should' 
be debited with the number of shares cancelled, and new 
certificates of stock reissued for the balance. Another plan 
is to debit each account for the entire number of former 
shares in order to close the account, after which the account 
is credited with the actual number of new shares issued. 

The only entry required to be made in the general ledger 
is one to adjust the Capital Stock, Surplus, and Good- Will 
accounts, as follows : 

July 1, 1916 

Capital Stock — Common $1,500,000 

To Good-Will (or Plant) $1,000,000 

" Surplus 500,000 

To record the requirements of a charter 
amendment granted this day, reducing 
the number of shares of common stock 
from 30,000 to 15,000 of the par value 
of $1,500,000. 

This entry also cancels the entire Good-Will account 
and creates an additional surplus of $500,000. 

If it is desired to cancel the old capital stock account 
and to open a new account for the reduced capital stock, 
the following plan might be adopted : 

Capital Stock — Common $3,000,000 

To Capital Stock — Common $1,500,000 

" Good-Will 1,000,000 

" Surplus 500,000 

(Full explanation necessary here.) 

Other methods of stating the journal entry might be 
used, keeping in mind that accounts should be given such 



REORGANIZATION BY AGREEMENT 475 

titles as will readily identify their functions. Referring to 
the balance sheet, notice the manner of stating the notes 
under discount at the bank. This plan is used by some 
accountants. A new balance sheet does not need to be 
shown at this time since only three accounts are affected 
by the adjustment. They are : 

Common Stock reduced from $3,000,000 to $1,500,000. 
Good- Will reduced from $1,000,000 to nothing. 
Surplus increased from $45,000 to $545,000. 

§ 389. Conditions of Reorganization 

This company, like many others, has overvalued its 
properties and has issued its capital stock on the strength 
of such valuation. The properties and good-will are listed 
at "cost," that is, after allowing for depreciation; but this 
only indicates the value placed upon them at the time of 
purchase, measured in shares of the purchasing company, 
which evidently was too high. Stock, like water, must find 
its level sooner or later, and it is well known that the stock 
market quotations usually show it very close to its intrinsic 
property valuation after all water or fictitious value has 
been eliminated. 

Assuming that the good-will of $1,000,000 was largely 
fictitious, it is apparent that the intrinsic value of the stock 
was only $3,000,000, or $75 per share; if the good-will was 
represented by common stock, then the market value of 
the common stock will be reduced by one-third, or to 
$66.67 P er share, while the preferred stock will remain at 
or near the par value. By reducing the capital stock to 
$2,500,000, the good-will is eliminated and $500,000 added 
to the Surplus account, with the result that the actual capi- 
tal and surplus is then $3,045,000, and the intrinsic value 
of all stock averages slightly over $120 per share. The 
relative value of preferred and common stock must, of 



476 



REORGANIZATION 



course, depend upon the status of the preferred; if the 
latter is entitled to only par value, $1,000,000 on liquida- 
tion, it is obvious that the 15,000 shares of common stock 
must be worth $2,045,000 or about $136 per share, and the 
preferred slightly above par in harmony with its annual 
earnings. It will be seen that the stock reduction and 
elimination of good-will do not enhance the financial sta- 
bility of the company upon which its credit is based. On 
the other hand, the status of the preferred and common 
stockholders remain the same as to proprietorship and 
participation in profits. The preferred stock will, if busi- 
ness permits, pay its 7% dividend or $70,000 per year, 
while the remaining profits will be available for the common 
stock dividend. 

The American Milling Company in 1914 reduced its 
capital stock from $3,500,000 to $700,000, by the elimina- 
tion of good-will and patents. In a letter sent to the 
stockholders asking them to vote on the proposed reduction, 
the following paragraph appeared : 

"The good-will and patent rights add nothing to a solid financial 
basis on which to operate your property and a statement containing 
items of this character injures us in banking circles to such an extent 
that your officers are handicapped in making a proper financial show- 
ing, and in addition to this we are compelled to pay $2,800 capital 
stock tax per annum on this excess which would be saved to you by 
making the change." 

§ 390. Balance Sheet Before Adjustment 

To illustrate the reorganization of a company to avoid 
the appointment of a receiver, the case of the Booth Manu- 
facturing Company may be taken. The stock of this 
company was in the hands of fifty stockholders, five persons 
held 60% of it and voted themselves into office from year 
to year. These five officials paid themselves high salaries 
and even permitted the capital to become greatly impaired 



REORGANIZATION BY AGREEMENT 



477 



through extravagance and apparent incompetence. The 
minority stockholders made application to the court for 
the appointment of a receiver, on the grounds that they 
had been treated unfairly and that the interests of the com- 
pany were being sacrificed for personal advantage of the 
majority stockholders. The following statement (the case 
is entirely fictitious) was submitted at the court's request: 



Booth Manufacturing Company 

Balance Sheet, June i, 1916 

(Before Adjustment) 



Assets 




Liabilities 




Real Estate 


$20,000.00 


Capital Stock (shares 




Machinery and Tools. 


12,000.00 


$10 each) 


$100,000.00 


Furniture and Fix- 




Mortgage Outstanding 


15,000.00 


tures 


5,000.00 


Bank Loans, Indorsed 




Good- Will 


25,000.00 


by Directors 

Notes Payable 


10 000.00 


Material and Stock on 


25,000.00 


Hand 


46,800.00 


Accounts Payable 


32,700.00 


Notes Receivable 








($2,000 overdue).*.. 


27,500.00 






Accounts Receivable 








($6,000 doubtful) . . . 


36,200.00 






Cash in Bank 


5,900.00 






Profit and Loss 


4,300.00 








$182,700.00 


$182,700.00 



§ 391. Plan of Adjustment Adopted 

In resisting the application for receivership, the directors 
agreed to a change in the policy and management of the 
company. This was accepted by the minority interests, 
thereby obviating the necessity for a receivership. The 
agreement included the following points : 



*$8,ooo of additional customers' notes have been discounted at the bank and 
bear the Company's indorsement, one of which for $2,000 made by Thompson 
Brothers has not been paid and must be taken up by this Company. 



478 



REORGANIZATION 



i. Cumulative voting is to be authorized so that the 
minority stockholders will elect two of the five directors. 

2. Salaries are to be paid only to persons actually en- 
gaged in the company's work and are to be determined by 
the unanimous vote of all the directors. 

3. A campaign of business building is to be inaugurated 
to make the company prosper as in previous years. 

4. Xo merchandise is to be purchased until the present 
supply is considerably lessened. 

5. Efforts are to be made to enforce prompt payment of 
notes and accounts receivable. 

6. An assessment of 12%, payable forthwith, is to be 
levied on all stock, in exchange for which certificates of in- 
debtedness, payable in six months without interest, are to be 
issued. 

7. The indorsed bank loans are to be paid off and the 
personal liability cancelled. 

8. Annual audits by certified public accountants are to 
be made hereafter. 

§ 392. Accounting Requirements 

In carrying out these requirements and adjustments, the 
following book entries are required, assuming that $15,000 
of the stock has been disposed of at a profit of $2,800; that 
$6,000 of the overdue notes receivable have been paid and 
the remainder renewed, and that $13,500 of accounts re- 
ceivable have been collected : 

June 1, 1916 
First Entry 

Cash $12,000 

To Certificates of Indebtedness $12,000 

For advances made by the stockholders, being 
a 12% assessment on outstanding stock, and 



REORGANIZATION BY AGREEMENT 4 yg 

represented by certificates of indebtedness 
payable December i, without interest, as 
per special agreement. 

Second Entry 

Bank Loans $10,000 

To Cash $10,000 

For payment of indorsed notes at First Na- 
tional Bank, under reorganization agreement. 

Third Entry 

Cash $17,800 

To Merchandise $15,000 

" Profit and Loss 2,800 

For special sale of part of the finished stock 
at a profit of $2,800. 

Fourth Entry 

Cash $19,500 

To Notes Receivable $6,000 

" Accounts Receivable 13,500 

For payment on account of notes and accounts 
receivable. 

Fifth Entry 

Notes Receivable $6,000 

To Notes Receivable $6,000 

For renewal of overdue notes by sundry 
customers. 

Sixth Entry 

Thompson Brothers (protested note) $2,000 

To Cash $2,000 

For payment of their dishonored note due to- 
day at the bank. 

The revised balance sheet after these entries have been 
made is as follows : 



480 



REORGANIZATION 



Booth Manufacturing Company 

Balance Sheet, June i, 1916 

(After Adjustment) 



Assets 




Liabilities 




Real Estate 


$20,000.00 


Capital Stock 


$100,000.00 


Machinery and Tools. 


12,000.00 


Mortgages Outstand- 




Furniture and Fix- 




ing 


15,000.00 


tures 


5,000.00 


Certificates of Indebt- 




Good-Will 


25,000.00 


edness 

Notes Payable 


12,000.00 


Material and Stock on 


25,000.00 


Hand 


31,800.00 


Accounts Payable 


32,700.00 


Notes Receivable 


21,500.00 






Thompson Brothers 








(protested note) 


2,000.00 






Accounts Receivable.. 


22,700.00 






Cash in Bank 


43,200.00 






Profit and Loss 


1,500.00 








$184,700.00 


$184,700.00 



CHAPTER XXXIV 

RECEIVERSHIP 

§ 393. Receivers 

A receiver is an officer of the court, appointed in an 
equitable action, to take charge, custody, control, and 
management of a plant, property, or business, to hold and 
operate or sell out to the best advantage. 

The receiver represents the court, and is subject to its 
order alone, and any interference with the lawful acts of 
the receiver is contempt of court. His control is complete, 
and neither directors, stockholders, nor creditors have any 
voice in the management while the receiver is in charge. 

Of late years the use of receivers in those cases where 
corporations have become involved in financial difficulties 
has largely increased. Especially in the case of railroads 
and the larger industrial corporations, where the enter- 
prise must be continued, has the use of the receiver become 
the regular course. The law relating to the appointment 
and procedure of receivers has become extensive and only 
a few of its more prominent features can be mentioned here. 

§ 394. Appointment of Receivers 

A receiver may be appointed by a court of equity at the 
suit of creditors having a lien, a mortgage, or judgment 
where there is eminent danger of the property being lost, 
wasted, or misapplied. A receiver may be appointed before 
foreclosure, in an action to foreclose a mortgage, if neces- 
sary to prevent loss, waste, or depreciation. 

In extreme cases of fraud and mismanagement on the 

481 



482 RECEIVERSHIP 

part of the officers of the corporation, a court of equity will 
appoint a receiver at the suit of minority stockholders. 

In most of the more advanced states, in addition to the 
usual powers of the court of equity to appoint receivers, 
the statutes provide for their appointment in certain specified 
cases. For example, in New York the statutes provide that 
a receiver may be appointed in cases of foreclosure of a 
mortgage when the income has been mortgaged or when 
a property is insufficient to pay the mortgage debt; also 
the statutes authorize receiverships in various dissolution 
proceedings. 

Usually a receiver is appointed on the application of a 
mortgagee or of a trustee of the mortgage deed or trust 
in connection with the foreclosure proceedings. Where the 
mortgage covers income, rents, and profits and the cor- 
poration is insolvent, the appointment of the receiver is a 
matter of course. Usually it is to the interest of all con- 
cerned that the receiver should be appointed. Where there 
is any prospect of a reorganization, such an appointment 
is absolutely necessary. 

Usually, in a foreclosure suit the court will not appoint 
an officer, director, or stockholder of the corporation as re- 
ceiver, nor any one interested on the other side, unless by 
agreement of both sides. A trust company may be ap- 
pointed. The appointment of a receiver rests in the dis- 
cretion of the court. To handle to the best advantage the 
affairs of a financially embarrassed corporation requires the 
highest order of business ability and judgment, and it is 
not always possible to find such men free when they are 
needed to take receiverships. 

§ 395- Powers of Receivers 

From the date of his appointment the receiver takes 
title to the personal property of the corporation. Real 



RECEIVERSHIP 483 

estate must be conveyed to him by an actual deed unless, 
as in New York, the statutes provide that real estate as well 
as personal property passes to the receiver on his appoint- 
ment. After a receiver is appointed, the officers of the 
corporation have no more authority to do anything in regard 
to the corporation business ; neither can creditors levy execu- 
tion, attachment, or other legal process on its property. 
What is said here applies only to property within the state. 
If there is property in another state, it will be necessary 
for the courts of that state to appoint a receiver to take 
it over. 

With the permission of the court appointing him, the 
receiver may institute suit almost to the same extent as the 
corporation he represents, but no one can bring suit against 
the receiver without the permission of the court. He 
represents the corporation, stockholders, and creditors. In 
the case of an uncertain or doubtful claim, he may com- 
promise it. He may sell all the assets to a new corporation 
even where some of the stockholders dissent. This power 
enables him to promote an effective reorganization. 

A receiver cannot undertake new work or extend the 
operations of the corporation unless he has express authority 
from the court that appointed him. All that pertains to the 
usual management and operations of the corporation he 
may do under his general authority, and the court will 
sustain him unless his acts are clearly reckless or fraudulent. 
The books of the corporation are usually placed in his hands 
and are subject to the inspection of the parties interested. 

Any special authority required to preserve the property 
or to save the rights of creditors or stockholders will be 
granted by the court on application ; for instance, a receiver 
may be authorized to borrow money to pay pressing claims 
or to pay interest on coupons due on an underlying mort- 
gage, or to buy new machinery, or to buy rails and rolling 



4 8 4 



RECEIVERSHIP 



stock. For such purposes the receiver has a right to use 
the income of the corporation as it comes into his possession, 
and when this is insufficient he may ask the court for 
authority to issue receiver's certificates. These are evidences 
of debt issued by the receiver and take precedence of any 
existing debts and liens. 

The receiver may take over existing leases and contracts 
or he may decline to continue them. If he continues existing 
contracts, then sums becoming due on them thereafter, are 
preferred claims, being part of the receiver's own expenses 
of operation. Amounts previously due on them and all 
claims on rejected leases, notes, and contracts have to 
take their chance with the claims of the general creditors. 
The receiver's authority to refuse to carry out executory 
contracts of the corporation is undoubted, and he has a 
reasonable time to decide as to whether he will adopt or 
discontinue such contracts. 

The receiver will apply the income first to the payment 
of wages, repairs, and expenses of operation. Until these 
are paid, the bondholders take nothing. 

§ 396. Liability of Receivers 

In some cases receivers have managed so badly that on 
final accounting the expenses of the receivership have con- 
sumed the entire property, leaving nothing for the creditors. 
The discretion of the court was at fault, and in such cases 
there is no redress. The receiver is not liable for any debts 
or obligations incurred by him in the discharge of his trust, 
unless he has been guilty of misconduct. He is not liable 
for lack of business ability. 

If he acts in important matters without express authority 
from the court, he may make himself liable personally. In 
a case in Pennsylvania where the receivers were authorized 
to continue business for six months and they went on for 



RECEIVERSHIP 485 

six months longer, the court held them responsible for the 
losses of the last six months. 

A receiver is allowed reasonable compensation and his 
counsel fees. In cases where the amount involved is not 
large, 5%' on receipts and also on disbursements is usually 
allowed. The court will always be governed by the char- 
acter of the work. The skill shown should be a factor in 
determining the amount of compensation. 

§ 397. Receivers in Bankruptcy Cases 

A court of bankruptcy may appoint a receiver to take 
charge of the bankrupt's property when it is necessary for 
the preservation of the bankrupt's estate, pending the ap- 
pointment of the trustee; otherwise the property might be 
wasted and depreciated. A receiver in bankruptcy has 
limited powers and his tenure is temporary. It is expected 
that the trustee will wind up the estate, and hence the 
receivership is merely a preliminary to his appointment. 

The matter of dissolution by bankruptcy is treated in 
Chapter XXXVII. 

§ 398. The Receiver's Accounts 

A receiver is required to keep careful record of his 
transactions and to render frequent accounts during his 
receivership. To save the time of the court, it is usual to 
give immediate charge to a master in chancery who has 
authority to pass on the accounts submitted. His decision 
is final unless an appeal is taken to the court. Unless the 
items allowed are unusual, the decisions of the master will 
be sustained. If the master approves the accounts as ren- 
dered from time to time, the court will rarely fail to sustain 
him. 

There being no prescribed form of keeping the receiver's 
accounts, the accountant may use his own judgment in out- 



4 86 



RECEIVERSHIP 



lining the books to be used or the manner of keeping them. 
The availability of data pertaining to the trust is the main 
consideration, however, and should be so regarded in plan- 
ning the records. No matter what method of account- 
keeping is used, the receiver is required to state the assets 
and liabilities of the company at the beginning and termina- 
tion of his receivership, as well as the various intervening 
transactions. These statements to the court become public 
records and are available for general inspection. It may be 
said that these suggestions apply also to the account-keeping 
for assignees, trustees, executors, and administrators. 

§ 399. The Company's Accounts During Receivership 

The general books of an embarrassed company may be 
adjusted to meet the new condition of affairs, but in most 
cases they are continued as usual until it is known what is 
to become of the company. If they are to be kept in 
harmony with the accounts of the receiver, adjusting entries 
may be made and all ledger accounts closed, except Capital 
Stock, Receiver, and Deficiency or Surplus. The debit 
balance to the receiver's account will stand until the end of 
the receivership. (For adjusting entries, see § 411.) 

Upon termination of the receivership, when the assets 
and liabilities as then existing are turned back to the 
company, assuming that business is to be continued, entries 
must be made debiting assets and crediting the liabilities, 
the difference being credited to the receiver's account. The 
receiver's balance (or net worth of the company) will at 
that time be either greater or less than the amount originally 
shown, and must then be adjusted into Surplus account. 
If the capital has undergone certain changes, which is 
usually the case, suitable adjusting entries must be made 
to bring it into harmony with present conditions as reflected 
in the receiver's final official report. 



CHAPTER XXXV 

RECEIVERSHIP AND REORGANIZATION 

§ 400. Preliminaries to a Receivership 

When a corporation begins to go behind financially, its 
officials usually continue to manage it long after the danger 
point is passed. The creditors or bondholders likewise are 
loath to take any action likely to precipitate a collapse, and 
as a result operations usually go on until it is not possible 
to avoid a public breakdown. 

The ordinary small business corporation, under such cir- 
cumstances, will call a meeting of its creditors, lay a state- 
ment of its affairs before them, and the lawyer representing 
the corporation will ask for an extension of credits, propose 
a composition, or offer to turn over the business to an as- 
signee or a friendly receiver. The creditors w r ill determine 
whether it is best to extend credits, accept any proposed 
composition, or institute insolvency proceedings. Experi- 
enced credit men representing larger creditors easily decide 
what is the best line of policy and, unless matters have gone 
too far, they generally devise some plan of business reor- 
ganization without calling in the aid of the courts. 

In the case of larger corporations it is not easy to devise 
any plan of reorganization without some relief from pressing 
claims and time to study out practicable methods of reor- 
ganization. 

The appointment of a receiver attains this end. No suits 
or claims can be pushed against the corporation, and the 
business and property are preserved from loss. Nothing else 

487 



488 



RECEIVERSHIP 



is so effectual ; therefore in all cases where a larger corpora- 
tion gets into financial difficulties, the first step is to have 
a receiver appointed. Preliminary to this, those most in- 
terested confer together, and decide on a plan of action. 



§401. Reorganization Agreement 

The larger bondholders, when they face default in in- 
terest payments and see that a forced sale will not pay what 
is due, usually get together and prepare an agreement of 
bondholders or of stockholders, or of both, by which they 
agree to deposit their holdings, and to sign the agreement to 
authorize the committee in charge to represent their interests 
in the outlined plan of reorganization. Those who devise 
the plan usually appoint a committee on reorganization to 
take charge of the whole matter. The success of the under- 
taking depends on the ability and repute of the members of 
this committee. The appointment of a receiver is but one 
incident in the plan. 

The following is typical of the notices sent out to bond- 
holders or stockholders, or both, when the reorganization 
of their corporation seems necessary : 

To the Holders of 
Collateral Trust Four Per Cent Gold Bonds of 2002 

OF 

Chicago, Rock Island & Pacific R. R. Co. 

The Railroad Company having made default in the payment of the 
interest due May i, 1914, on the above bonds, it is imperative that bond- 
holders should immediately unite for the protection of their interests. 
Bondholders who have not already done so should deposit their bonds at 
once with the Depositary, Central Trust Company of New York, at its 
office, No. 54 Wall Street, or at its branch office, Madison Avenue and 
42d Street, New York City, under the agreement dated February 26, 1914. 
Copies of said agreement may be obtained from the Depositary or 
from the Secretary of the Committee. Bonds in coupon form must be 
accompanied by the coupon maturing May 1, 1914. Bonds in registered 
form and registered coupon bonds must be accompanied by transfers 



RECEIVERSHIP AND REORGANIZATION 489 

executed by the registered owner or his attorney duly authorized. Cer- 
tificates of deposit will be issued by the Depositary for all bonds de- 
posited, and in due course application will be made for listing such 
certificates of deposit on the New York Stock Exchange. 

The protective agreement permits the deposit thereunder of such 
of the stock of The Chicago, Rock Island & Pacific Railway Com- 
pany as is not pledged under the trust agreement securing the Collat- 
eral Trust Bonds, and holders of said stock are requested to deposit the 
same or to communicate with the Committee. 

Any bondholder desiring further information may apply to the 
members of the Committee or to its secretary. 

Dated, New York, May 2, 1914. 

n „ James Brown 

JOLINE, LARKIN & RATHBONE, Bernard m Baruch 

Cravath & Henderson Henry EyANS 



Counsel 



Frederick Strauss 



C. E. Sigler, Secretary, J- N - Wallace, Chairman 

54 Wall Street, New York City. Committee 

A depositary for the bonds, stock, and other securities 
is usually named in the agreement of reorganization, or, if 
not, is appointed by the committee. This depositary is 
usually some well-known trust company. It is customary 
to have one depositary for the bonds and another for the 
stock, and still another for the unsecured claims, if the un- 
secured creditors joined in the agreement. Some form of 
certificate of deposit or interim receipt is given to each one 
who deposits his securities and signs the agreement. There- 
after he has nothing further to do with the matter unless 
the depositors are called upon to vote in regard to some 
vital matter concerning the reorganization. 

The reorganization committee have full authority and 
are trustees for the real owners of the securities. As trus- 
tees they must act in good faith and may not seek their 
personal advantage. They cannot make any material altera- 
tion of the agreement but must carry it out according to its 
terms. 

Where bonds have been used as security for loans, etc., 



4Q RECEIVERSHIP 

by their owners, the owner is the proper party to assent 
to the agreement of reorganization, but the new certificates 
must be issued to the party who holds the bonds as security, 
unless the debt has been paid off in the meantime. If the 
new bonds or stock prove valueless, the party who holds 
them as security may still enforce his original claim against 
the party who pledged them with him. 

The reorganization committee usually appoints a pur- 
chasing committee, who bid for the property at the fore- 
closure sale. They offer in payment certificates of deposit 
of the various depositaries, showing the amounts of stock 
and bonds, etc., of the embarrassed corporation that each 
has deposited, and these are accepted in payment for the 
property and then cancelled. The property is then turned 
over to the new company. 

§ 402. Conditions Preceding Receivership 

The receivership forms and procedure which follow are 
in accordance with the practice of the Court of Common 
Pleas of Pennsylvania, and perhaps some change will be 
necessary for acceptance in the courts of other states. In 
New York State, for example, the form of account required 
by the courts differs from the one shown, requiring first a 
summary of the entire matter, while full particulars are con- 
tained in supporting schedules, designated A, B, C, etc. In 
every case it is, of course, required that the matter shall be 
set forth logically and clearly. 

§ 403. Statement of Affairs 

To illustrate receivership records and accounts, let us 
assume that the Excelsior Machine Company, unable to 
meet its obligations, w r as placed in the hands of a receiver 
on July 1, 19 16. A statement of its condition before and 
after appraisement is given below. 



RECEIVERSHIP AND REORGANIZATION 



491 



Statement of Excelsior Machine Company 

At Beginning of Receivership, July i, 1916 

Appraised 
Assets Book Value Value 

Real Estate, Plant, Good-Will, etc $1-2, 136,500.00 $11,536,500.00 

Investments in Subsidiary and Affiliated 
Companies (pledged with trustee of 

collateral trust bonds) 4,500,000.00 4,000,000.00 

Merchandise, Materials, Goods in Pro- 
cess, and Supplies 2,178,960.00 2,100,000.00 

Deposit with Sinking Fund Trustee: 

Cash $350,400.00 

Bonds of This Company.. . 1,045,800.00 2,296,200.00 2,296,200.00 



Accounts Receivable 3,245,140.00 3,200,000.00 

Notes Receivable* 2,862,100.00 2,440,100.00 

Cash on Hand and in Banks 975,850.00 945,850.00 



Total $28,194,750.00 $26,518,650.00 



Appraised 

Liabilities Book Value Value 

Capital Stock — Preferred 7% Cumulative $5,000,000.00 

Capital Stock — Common 5,000,000.00 

First Mortgage 5% Bonds, due 1930 3,500,000.00 $3,500,000.00 

First Mortgage 5% Bonds, due July 1, 

1917 3,000,000.00 3,000,000.00 

Collateral Trust 5% Bonds, secured by 

deposit of collateral, per contra 4,000,000.00 4,000,000.00 

Bank Loans Unsecured 500,000.00 500,000.00 

Notes Payable 1,490,500.00 1,490,500.00 

Accounts Payable 2,375,640.00 2,375,640.00 

Accrued Charges 328,250.00 328,250.00 

Reserves for Depreciation, Bad Debts, 

etc 897,510.00 897,510.00 

Liability on Notes under Discount, esti- 
mated 60,000.00 



Total Liabilities $26,091,900.00 $16,151,900.00 

Profit and Loss Surplus 2,102,850.00 



h Notes under discount at bank, $400,000 additional. 



49 2 RECEIVERSHIP 

Balance, Excess of Assets over Liabili- 
ties, being Receiver's Equity in the 
Estate 10,366,750.00 



Total $28,194,750.00 $26,518,650.00 



Note : It might be well to show equities only in the statement of 
appraisal, deducting all secured liabilities from the assets pledged or 
mortgaged. Bonds held by the trustee may be deducted from the 
corresponding liability if desired, and perhaps the trustee's cash also. 

§ 404. The Receiver's Activities 

Upon his appointment, July 1, 19 16, the receiver made 
an appraisement and statement of the company's affairs and 
filed his inventory with the court. It revealed the following" 
conditions, all of which are included in the above statement. 

I. That the real estate, plant, and good- will should be 

reduced at least $600,000, but the depreciation 

reserve should not be disturbed. 
That the investments had declined $500,000 below 

the book value stated. 
That the merchandise and material should be re- 
duced to $2,100,000. 
That the accounts receivable were estimated to be 

worth $3,200,000 
That notes receivable were doubtful to the extent 

of $420,000. 
That at least $60,000 of the notes under discount 

would be dishonored. 
That $30,000 for dishonored notes of a customer 

had been charged to the company's account by 

the bank. 
8. That building extensions now in operation should 

be continued by the receiver. 

The receivership was terminated December 31, 1916, at 
which time a reorganization took place. The statement of 



RECEIVERSHIP AND REORGANIZATION 493 

the receiver at the date of his withdrawal, after a tenure 
of six months, is shown herewith. It contains the ad- 
justments suggested in his statement to the court, in addition 
to the following transactions carried out during his incum- 
bency, which were entered in his separate ledger : 

1. $1,200,000 of 6% receiver's certificates were issued, 

due in four months, dated August 1, and sold 
at 98. 

2. Building extensions were completed at a cost of 

$500,000. 

3. The factory was kept running at a considerable re- 

duction in capacity. 

4. Goods were sold from stock for cash at the best 

prices obtainable, bringing in $57,680. 

5. Orders were completed and billed, aggregating 

$230,000, for which cash was received ; the 
merchandise, etc., on hand being valued at 
$2,100,000. 

6. $1,724,440 of the accounts receivable were col- 

lected; also $1,050,880 of the notes receivable, 
of which $75,000 applied to notes written off as 
doubtful. 

7. Accrued charges were paid for taxes and labor of 

$81,100, and $196,200 additional for wages of 
workmen. 

8. Material for use in factory amounting to $72,000 

was purchased for cash. 

9. Various expenses paid in cash amounted to $76,500, 

legal fees $22,500, and compensation of receiver 
$10,000. 

§ 405. Accounting Procedure 

The accounting procedure to record the receiver's activi- 
ties in this case require the following records and entries : 



494 RECEIVERSHIP 

1. Receiver's records and entries on taking cnarge. 

2. Receiver's records during his management of the 

business. 

3. Receiver's records and entries upon settlement of 

the estate. 

4. Statement of the receiver's account to the court. 

5. Entries to adjust the books of the company upon 

appointment of the receiver. 

6. Entries and adjustments on the books of the com- 

pany at the time the receiver is discharged. 

§ 406. (1) Receiver's Records on Taking Charge 

The adjustment of assets as a result of appraisements 
reduces the surplus of the company to $366,750, being a 
shrinkage of $1,736,100 (§ 411). The net assets of the 
company now amount to $10,366,750, as shown by the 
figures given in the appraisal statement. The receiver opens 
his own separate ledger and brings into it the assets and 
liabilities (the latter sometimes omitted), as per appraise- 
ment. In order that notes and accounts receivable written 
off may not be lost sight of, it is good practice to carry 
them on the books, say at a value of $1 each. The receiver's 
opening entry is as follows : 

Opening Entry, July 1, 1916 

Assets 

Real Estate, Plant, Good- Will, etc $11,536,500 

Investments in Subsidiary and Affiliated 

Companies, Pledged 4,000,000 

Merchandise, Materials, Goods in Process, 

etc 2,100,000 

Deposit with Sinking Fund Trustee 2,296,200 

Accounts Receivable 3,200,000 

Notes Receivable 2,440,100 

Cash on Hand and in Banks 945*850 



RECEIVERSHIP AND REORGANIZATION 495 



Liabilities 




To First Mortgage 5% Bonds, due 




J 930 


$3,500,000 


" First Mortgage 5% Bonds, due 




July 1, 1917 


3,000,000 


" Collateral Trust 5% Bonds 




(secured by deposit of colla- 




teral, per contra) 


4,000,000 


" Bank Loans Unsecured 


500,000 


" Notes Payable 


1,490,500 


1 Accounts Payable 


2,375,640 


1 Accrued Charges 


328,250 


1 Reserves for Depreciation, Bad 




Debts, etc 


897,5io 


" Notes under Discount 


60,000 


" Receiver's Equity, Estate of 




Excelsior Machine Company 


10,366,750 



$26,518,650 $26,518,650 

To record assets and liabilities of the 
Excelsior Machine Company, in re- 
ceivership, taken over this day by 
decree of the Court. Appraised 
values used, and all liabilities stated. 

In opening the receiver's ledger the various accounts 
should, of course, be properly classified and located. Space 
must also be provided for the current business transactions 
of the receiver. If the liabilities were omitted, as is fre- 
quently the case, it is apparent that the receiver's equity 
account would show a credit of $26,518,650, the total value 
of assets ; or, if only the property equities were entered, the 
amount would be $16,018,650. The sinking fund deposit 
of $2,296,200 might be deducted from the outstanding 
bonded debt in obtaining the property equity, but this would 
not make any change in the amount of the receiver's equity 
in the estate. 



496 



RECEIVERSHIP 



§ 407. (2) Record of Receiver's Transactions 

The receiver must keep a strict record of all business 
activities in order that he may give a correct account of 
them to the court. The entries are made in the cash book, 
though certain of them might properly be contained in the 
journal. The result of these entries is summarized in the 
following cash account. 



Receiver's Cash Account 

(Being a record of his transactions from July 1, 1916, 

to December 31, 1916 



Receipts 




Payments 


Balance, Received 




Discount on Re- 




from Estate 


$945,850.00 


ceiver's Certificates 


$24,000.00 


Receiver's Certifi- 




Real Estate Opera- 




cates 


1,200,000.00 


tions 


500,000.00 


Merchandise 


57,680.00 


Accrued Charges.. . . 


81,100.00 


Merchandise 


230,000.00 


Wages 


196,200.00 


Accounts Receivable. 


724,440.00 


Merchandise 


72,000.00 


Notes Receivable 


975,880.00 


Expenses 


76,500.00 


Notes Receivable 




Legal Expenses 


22,500.00 


(Doubtful) 


75,000.00 


Salary of Receiver. . 
Receiver's Certifi- 


10,000.00 






cates Paid 


1,200,000.00 






Interest on Above... 
. Total 


24,000.00 




$2,206,300.00 






Balance, Cash, in 








Hand 


3,002,550.00 




$5,208,850.00 


$5,208,850.00 



§ 408. (3) Receiver's Closing Entries 

At the termination of his activities and before the re- 
organization takes place, the receiver adjusts his ledger 
accounts to determine the status of the estate. After all 
entries having to do with merchandise have been posted to 



RECEIVERSHIP AND REORGANIZATION 



497 



that account, disregarding the conversion of material into 
finished or partly finished product, it will appear as follows : 

Merchandise Account 



Values Taken Over 

at Beginning $2,100,000.00 

Purchases 72,000.00 

Profit 265,680.00 

$2,437,680.00 



Cash Sales $57,680.00 

Cash Sales 230,000.00 

Inventory Valuation 

at End 2,150,000.00 

$2,437,680.00 



Below are given the various entries to close the receiver's 
loss and gain accounts, followed by the Profit and Loss 
account showing a net loss of $12,520 resulting from the 
period of receivership supervision. 



December 31, 1916 

Merchandise, Material, etc $265,680 

Notes Receivable (Doubtful) 75>ooo 

To Profit and Loss 

To record profit on sales on completion of 
orders, and collection of doubtful notes. 

Profit and Loss $353,200 

To Discount on Receiver's Certificates. 

" Wages 

" Expenses 

" Legal Expenses 

" Receiver's Salary 

" Interest on Receiver's Certificates. . . 
Entries to close all nominal accounts into 
Profit and Loss. 

Receiver's Equity in Estate $12,520 

To Profit and Loss 

To close Profit and Loss into receiver's 
equity account. 



$340,680 



$24,000 
196,200 
76,500 
22,500 
10,000 
24,000 



$12,520 



498 



RECEIVERSHIP 



Receiver's Profit and Loss Account 
For Period from July i, 1916, to December 31, 1916 



Discount on Receiver's 

Certificates $24,000.00 

Wages to Workmen.. . 196,200.00 

Expenses, General 76,500.00 

Legal Expenses 22,500.00 

Receiver's Salary 10,000.00 

Interest on Receiver's 

Certificates 24,000.00 



$353,200.00 



Profit on Merchandise 
Account $265,680.00 

Collection of Notes 
Receivable (Doubt- 
ful) 75,000.00 

Receiver's Net Loss... 12,520.00 



$353,200.00 



The receiver's equity account, showing a balance of 
$10,354,230, as per his accompanying statement, should be 
about as follows : 

Receiver's Equity Account 

(Showing equity in estate at beginning and termination) 



Net Loss during 

Receivership $12,520.00 

Balance of Estate, 

at Termination.. . 10,354,230.00 



$10,366,750.00 



Balance of Estate, 
at Beginning $10,366,750.00 



$10,366,750.00 



Balance $10,354,230.00 



Since a reorganization of the company is to take place 
under a reorganization committee, the receiver hands over 
the entire estate as now constituted without making any 
settlement disbursements. An entry for closing, somewhat 
similar to the following, is required ; giving, of course, the 
various assets and liabilities in detail : 



RECEIVERSHIP AND REORGANIZATION 499 

December 31, 1916 

Receiver's Equity Account $10,354,230 

Sundry Liabilities (itemized) 16,070,800 

To Sundry Assets (itemized) $26,425,030 

To close receiver's accounts on term- 
ination of receivership, all assets and 
liabilities of the estate having been 
transferred to the Reorganization 
Committee, per order of the Court, 
without making distribution of 
assets. 

The aggregate assets and liabilities are included in the 
above entry (instead of the equities only as shown in the 
receiver's final statement), because the assets and liabilities 
are all spread separately in the book accounts of the receiver. 

As a result of all transactions, the receiver's statement 
at time of closing will appear as follows : 

Statement of Receiver of Excelsior Machine 

Company 
At Termination of Receivership Jurisdiction, December 31, 1916 

Assets 

Real Estate, Plant, Good-Will, etc $12,036,500.00 

Less Encumbrance : 

First Mortgage 5% 

Bonds, due 1930 $3,500,000.00 

First Mortgage 5% 
Bonds, due 1917 3,000,000.00 6,500,000.00 



Receiver's Equity in Property $5,536,500.00 

Investments in Affiliated 

Companies $4,000,000.00 

Less Deposit to Secure 
Collateral Trust Bonds. 4,000,000.00 (nil) 



Merchandise, Material, Supplies, etc 2,150,000.00 

Sinking Fund Deposit with Trustee* .... 2,296,200.00 



*This not being available to the receiver might be omitted, in which case the 
property encumbrance would be reduced by a like amount; the receivers equity 
would remain the same in either case. 



5°o 



RECEIVERSHIP 



Interest Accrued on Sinking Fund De- 
posit (omitted) 

Accounts Receivable 1,475,560.00 

Notes Receivable 1,464,220.00 

Cash on Hand and in Bank 3,002,550.00 



Total Equity in Assets $15,925,030.00 

Liabilities 

Bank Loans Unsecured $500,000.00 

Notes Payable 1,400,500.00 

Accounts Payable 2,375,640.00 

Accrued Charges, remaining 247,150.00 

Reserves for Depreciation, etc 897,510.00 

Liability on Notes Discounted 60,000.00 



Total Liabilities 5,570,800.00 



Receiver's Equity, Excess of Assets over Liabilities $10,354,230.00 

§ 409. (4) Receiver's Statement to the Court 

The receiver may present to the court only one account 
or statement, known as the "First and Final Account," or 
he may present several. An auditor is usually appointed 
by the court to audit, examine, vouch, and pass upon the 
receiver's accounts in detail and to report to the court be- 
fore distributions are made, or dividends paid to creditors. 
The auditor causes an advertisement to be placed in the 
papers, giving notice that he will ^sit on a certain date to 
receive claims and hear complaints on the audited statement. 
The hearing may even be adjourned one or more times. 
The auditor generally makes up a statement of his own from 
that presented by the receiver, though it is usually briefer 
and may even be only a summary of the receiver's trans- 
actions. It recites in brief, as a rule, the activities of the 
receiver as an introduction to the audited statement, all of 
which is later filed with the court, to be kept as a permanent 
record. 



RECEIVERSHIP AND REORGANIZATION 



501 



First and Final Account of Charles W. Bennett, 
Receiver for the Excelsior Machine Company 

December 31, 1916 

Debits 
The Receiver charges himself as follows: 

Inventory and Appraisement of Assets taken over July 1, 1916: 
Equity in Real Estate, Plant, Good-Will, etc. $5,036,500.00 
Equity in Investments of Subsidiary Com- 
panies (none) 

Merchandise, Materials, Goods in Process, 

and Supplies 2,100,000.00 

Sinking Fund Deposit with Trustee* 2,296,200.00 

Accounts Receivable 3,200,000.00 

Motes Receivable 2,440,100.00 

Cash on Hand and in Banks 945,850.00 

Total Assets taken over $16,018,650.00 

Additions to Capital 

For Outlay Increasing Value of Real Es- 
tate and Properties $500,000.00 

Increase in Cash, per Cash Account 2,056,700.00 

Increase in Value of Merchandise 50,000.00 

Total Increase in Assets 2,606,700.00 

Total Value of Assets Taken Over and Acquired. $18,625,350.00 

Deductions from Capital 

Assets Realized and Collected as Follows : 

Accounts Receivable Collected $1,724,440.00 

Notes Receivable Collected 975,880.00 

Total Deductions 2,700,320.00 

Balance, Receiver's Equity in Estate $15,925,030.00 

The above, it should be noted, omits all liabilities, ex- 
cepting $81,100 of previously accrued charges paid off by 

*This is not in the hands of the receiver, but if omitted should be added to 
the equity in properties, increasing the latter to $7,332,700. 



50 o RECEIVERSHIP 

the receiver, and therefore represents equities in all the assets 
of the estate. If the liabilities were stated, the balance of 
the estate would be reduced to $10,354,230, the amount 
shown in the receiver's equity account (§ 408). The re- 
ceiver's statement to the court in this case, however, does 
not take the liabilities into consideration, but does include 
all activities during his tenure as receiver as shown by the 
statement of trading and the statement of cash received and 
disbursed. 

The books and records should not be confused with the 
account rendered to the court. 



Receiver's Statement of Trading 
Expenditures 

Inventory Received from Estate at Be- 
ginning $2,100,000.00 

Purchases of Merchandise 72,000.00 

Discount on Receiver's Certificates 24,000.00 

Wages to Workmen 196,200.00 

Expenses, General 76,500.00 

Legal Expense 22,500.00 

Receiver's Salary 10,000.00 

Interest on Receiver's Certificates 24,000.00 

Total Expenditures $2,525,200.00 

Income 

Inventory of Assets of Estate, on Hand at 

Gose of Receivership $2,150,000.00 

Collection of Doubtful Notes 75,000.00 

Sales of Merchandise 230,000.00 

Sales of Merchandise 57,680.00 

Total Income 2,512,680.00 

Excess of Expenditures over Income, being Net Loss 
during Receiver's Operations $12,520.00 



RECEIVERSHIP AND REORGANIZATION 503 

Statement of Receipts and Disbursements 

Receiver's Cash Account 

(Being a record of his transactions from July 1, 1916 

to December 31, 1916) 

Cash Received 

Balance, Received from Estate $945,850-00 

Cash Received from : 

Receiver's Certificates $1,200,000.00 

Merchandise 230,000.00 

Merchandise 57,680.00 

Accounts Receivable 1,724,440.00 

Notes Receivable 975,880.00 

Notes Receivable (Doubtful) 75,000.00 4,263,000.00 

Total $5,208,850.00 

Cash Paid Out 

Discount on Receiver's Certificates $24,000.00 

Real Estate Operations 500,000.00 

Accrued Charges 81,100.00 

Wages 196,200.00 

Merchandise 72,000.00 

Expenses 76,500.00 

Legal Expenses 22,500.00 

Salary of Receiver 10,000.00 

Receiver's Certificates Paid 1,200,000.00 

Interest on Above 24,000.00 

Total 2,206,300.00 

Balance, Cash in Hands of Receiver $3,002,5.50.00 

Referred to Auditor December 31, 1916. 

§ 410. (5) Adjustment of Company's Books on Appoint- 
ment of Receiver 

The books of the embarrassed company are frequently 
left in the condition that prevailed when the receivership 
began. In that case no entries of any kind are made until 
the time of reorganization, when the abandoned accounts 



504 RECEIVERSHIP 

may be adjusted to the new conditions. Sometimes it may 
be thought advisable, however, to adjust the accounts at 
both the beginning and end of receivership jurisdiction. 
This is assumed to have been done with the books of the 
Excelsior Machine Company. 

By referring to the appraisement, it will be seen that 
numerous adjustments of values were made. The losses 
sustained thereby should be adjusted into Surplus account 
in order to bring the ledger into agreement with the prop- 
erty valuations taken over by the receiver. 

§ 411. Entries to Adjust Inventories 

Shrinkage in assets occasioned by the appraisements are 
adjusted through the following entry on the books of the 
company : 

July 1, 1916 

Surplus $1736,100 

To Real Estate, Plant, etc $600,000 

" Investments 500,000 

" Merchandise, etc 78,960 

" Accounts Receivable 45J40 

" Notes Receivable 422,000 

" Cash 30,000 

" Notes under Discount 60,000 

To adjust losses and shrinkage in as- 
sets, per appraisement of receiver. 

It will be seen that this adjustment reduces the surplus 
of the company from $2,102,850 (§ 406) to $366,750. 

Closing entries should then be made, charging the re- 
ceiver with the assets and liabilities taken over, as follows : 

July 1, 1916 

Receiver $26,518,650 

To Real Estate, Plant, Good- Will, 

etc $1 1,536,500 



RECEIVERSHIP AND REORGANIZATION 505 

To Investments in Subsidiary and 

Affiliated Companies, Pledged 4,000,000 

" Merchandise, Materials, Goods 

in Process, etc 2,100,000 

" Deposit with Sinking Fund 

Trustee 2,296,200 

" Accounts Receivable 3,200,000 

" Notes Receivable 2,440,100 

" Cash on Hand and in Banks.. 945^50 

To record transfer of Company's assets 
to the receiver, as per order of the 
Court. 

First Mortgage 5% Bonds, due 1930 $3,500,000 

First Mortgage 5% Bonds, due July 1, 1917 3,000,000 
Collateral Trust 5% Bonds (secured, per 

contra) 4,000,000 

Bank Loans, Unsecured 500,000 

Notes Payable 1,490,500 

Accounts Payable 2,375,640 

Accrued Charges 328,250 

Reserves for Depreciation, Bad Debts, etc. 897,510 

Notes under Discount 60,000 

To Receiver $16,151,900 

For liabilities taken over by the re- 
ceiver this day, by order of the 
Court. 

The receiver's account in the company's ledger now 
shows a debit balance of $10,366,750, corresponding with 
the estate equity account of the receiver in his own ledger. 
The company's accounts after transferring the assets and 
liabilities to the receiver appear as follows : 

Trial Balance, July i, 19 16 

Receiver's Account $10,366,750.00 

Capital Stock — Preferred $5,000,000.00 

Capital Stock — Common 5,000,000.00 

Surplus 366,750.00 

$10,366,750.00 $10,366,750.00 



506 



RECEIVERSHIP 



§ 412. (6) Entries on Termination of Receivership 

It is not ordinarily advisable for the company to take 
the assets and liabilities back into its ledger accounts until 
the reorganization takes place. At that time the various 
adjustments should, of course, be made in order to reopen 
the ledger in harmony with the reorganized conditions. If 
it is thought desirable, however, to take the assets and lia- 
bilities as shown by the receiver's final statement into the 
company's ledger accounts, with the idea of making reor- 
ganization adjustments later, the entry would be : 
Closing Entry, December 31, 1916 
Debits 

Real Estate, Plant, and Good- Will $12,036,500 

Investments 4,000,000 

Merchandise, Materials, etc 2,150,000 

Sinking Fund Trustee 2,296,200 

Accounts Receivable 1,475,560 

Notes Receivable 1,464,220 

Cash 3> 002 >55° 

Credits 
To First Mortgage 5% Bonds, due 

1930 $3,500,000 

" First Mortgage 5% Bonds, due 

July 1, 1917 3,000,000 

Collateral Trust Bonds 4,000,000 

Bank Loans 500,000 

Notes Payable 1,490,500 

Accounts Payable 2,375,640 

Accrued Charges 247,150 

Reserve for Depreciation, etc.. 897,510 
Liability on Notes under Dis- 
count 60,000 

" Receiver's Account 10,354,230 

To record existing assets and liabili- 
ties on books of the company on 
termination of receivership (preced- 
ing the reorganization adjustments). 



RECEIVERSHIP AND REORGANIZATION ^ y 

It will be seen that there is a difference of $12,520 in the 
receiver's account, which amount must now be adjusted 
into surplus by the following entry : 

Surplus $12,520 

To Receiver $12,520 

To close and adjust receiver's account into 
Surplus. 

The Surplus account now shows a credit balance of 
$354,230, thus indicating a heavy shrinkage as a result of 
the receivership and its resulting destruction of values. 
After the reorganization takes place, these ledger accounts 
will, of course, be readjusted to harmonize with the new 
conditions as adopted by the committee of reorganization. 

In the case of railways and public utilities, there is good 
reason for keeping the company's books continuously during 
the receivership regardless of the receiver's records, since 
it is usually a foregone conclusion that, because of their 
necessary service to the community, they will continue opera- 
tions as usual, both during and subsequent to the receivership 
jurisdiction. 



CHAPTER XXXVI 

RECEIVERSHIP AND SALE 

§ 413. Introductory 

Reorganization following the appointment of a receiver, 
and the necessary accounting procedure have been set forth 
in the preceding chapter. If, as it may happen, a reor- 
ganization cannot be effected, it becomes the duty of the 
receiver to sell the property and use the proceeds of the 
sale in paying ( 1 ) the expenses of the receivership and sale, 
(2) the creditors or bondholders of the corporation. If 
anything remained the corporation would be entitled to 
it. In the case that follows the receiver was able to sell the 
property so as to give the old stockholders a liberal cash 
payment and stock in the new corporation. This is an 
unusually good showing. The payment to the stockholders 
would involve the dissolution of the old corporation; other- 
wise the distribution would be illegal. 

§ 414. Statement of Condition 

The following statements are informal and only intended 
to illustrate the principles involved. A more formal pres- 
entation of a receiver's accounts will be found in the next 
chapter. 

The Willis Grocery Company was placed in the hands 
of a receiver on April 1, 1916, at the request of merchandise 
creditors. William Hart was appointed receiver with full 
authority to continue the business under court supervision 
and to conserve the company's property, in the hope of 
effecting a favorable settlement with the creditors. Follow- 
ing is the statement before making appraisement : 

508 



RECEIVERSHIP AND SALE 



509 



Statement of the Willis Grocery Company 
As of April i, 1916 

(Showing condition upon appointment of receiver, William Hart, 
before making appraisements and book adjustments.) 



Assets 

Buildings, Properties, 

and Warehouses $50,000.00 

Store Equipment 10,000.00 

Delivery Equipment.. 10,000.00 

Merchandise in Stock 75,600.00 

Produce on Hand 11,850.00 

Accounts Receivable.. 85,410.00 

Notes Receivable 12,500.00 

Investments in Bonds 
of Unlisted Com- 
panies 25,000.00 

Cash on Hand 5,820.00 

Impairment of Capital 5,280.00 



$291,460.00 



Liabilities 

Capital Stock $200,000.00 

Less Uncalled Sub- 
scriptions 50,000.00 

Outstanding $150,000.00 

Mortgage on Real Es- 
tate 25,000.00 

Bank Loans Secured 
by Deposit of In- 
vestments (per con- 
tra) 10,000.00 

Notes Payable 15,000.00 

Accounts Payable 91,460.00 

$291,460.00 



Experts appointed by the court to appraise the assets 
made the following reductions, based partly on going values : 

Value of Merchandise reduced by $10,000.00 

Value of Produce reduced by 2,000.00 

Accounts Receivable written off as worthless 4,270.00 

Notes Receivable written off 1,800.00 

Depreciation of Properties and Buildings written off 6,200.00 

Depreciation of Store Equipment 2,000.00 

Depreciation of Delivery Equipment 2,000.00 

Value of Investments reduced by 3,000.00 

Total reductions $31,270.00 



The receiver, after complying with all legal require- 
ments, continued the business for five months in an effort 
to put the company on its feet, but without success. Pro- 



5IO RECEIVERSHIP 

posals for reorganization were not acceptable to the unse- 
cured creditors or to the stockholders. On September i, 
191 6, a meeting of stockholders and creditors was called, 
and a proposition to sell the business as a going concern 
to a new corporation was accepted. The terms of sale were 
as follows : 

1. Payment through the receiver to the former stock- 

holders as follows : 

(a) $60,000 in stock of the new company. 

(b) $56,000 in cash, to be turned over out of 
the assets. 

2. New company to take over all remaining assets and 

assume all liabilities, continuing the former set 
of books. 

3. All expenses of sale to be met by the purchasers. 
The transactions of the receiver up to September 1 are 

shown below : 

Results of Operations by the Receiver 
From April i to September i, 1916 

Receipts 

Collections from Notes Receivable $5,500.00 

Collections from Accounts Receivable 22,640.00 

Sales of Merchandise 53,750.oo 

Sales of Produce 24,800.00 

Expenditures 

Purchases of Merchandise $9,620.00 

Purchases of Produce 13,1 10.00 

Payment of Wages 4,000.00 

Operating Expenses 4,500.00 

Expenses and Salary (Nominal) of Receiver 1,500.00 

Interest Accrued on Mortgage, September 1, 1916, Unpaid... 625.00 

The accounting procedure which follows illustrates on 
the books of the dissolving company : 



RECEIVERSHIP AND SALE 5 1 1 

1. The receiver's records and entries upon taking 

charge. 

2. The receiver's entries for his official business 

transactions. 

3. The balance sheet of the company on September 1, 

1916, as presented by the receiver to the meeting 
of stockholders and creditors. 

4. The receiver's entries upon dissolution of the com- 

pany and sale of its assets and liabilities. 

§ 415. (1) Receiver's Records on Taking Charge 

The receiver's statement upon appointment shows a 
deficit of $36,550 after allowing for depreciation and de- 
ductions. The statement is similar to the one shown in 
§ 414, but with asset values reduced and the Capital Stock 
account usually omitted. The appraisal statement is pre- 
sented to the court for record. 

The receiver continues the same books of account after 
making the required adjustments, so that only adjusted 
balances of accounts appear in the ledger. Under these con- 
ditions his official transactions are entered up as in any 
ordinary business. The adjusting entries to harmonize the 
accounts with the revised statement of condition are given 
below. The plan followed in this instance might not apply 
in every case or be acceptable to all accountants, yet it is 
simple and can be readily understood. The inventories of 
merchandise and produce have been entered to the accounts 
without journal entries. 

First Entry 

April 1, 1916 

Profit and Loss $31,270 

To Merchandise $10,000 

" Produce 2,000 

" Accounts Receivable 4,270 



5I2 RECEIVERSHIP 

To Notes Receivable 1,800 

" Buildings and Properties 6,200 

" Store Equipment 2,000 

" Delivery Equipment 2,000 

" Investments 3,000 

To record the loss on notes and accounts re- 
ceivable and reduction in values of stock, 
properties, and equipment — to harmonize the 
accounts with the receiver's statement of 
affairs. 



The ledger now shows an impairment or debit to Profit 
and Loss of $36,550, and with an outstanding capital of 
$150,000, this leaves an equity of only $113,450. These 
two accounts should not appear in the receiver's ledger at 
all, and therefore are closed out by journal entry, leaving 
instead a credit balance of $113,450 to "Willis Grocery 
Company Estate" account. The required journal entry 
would be as follows : 



April 1, 1916 
Second Entry 

Capital Stock $150,000 

To Profit and Loss $36,550 

" Willis Grocery Company Estate 113,450 

To close the Capital Stock and Profit and 
Loss accounts and to open Willis Grocery 
Estate account to show the receiver's equity 
therein. 



§ 416. (2) Entries to Record Receiver's Activities 

The recording of the receiver's activities would be made 
in the cash book and journal. The cash book entries are 
summarized in the cash account given below and the closing 
journal entries follow : 



RECEIVERSHIP AND SALE 

Receiver's Cash Account 

April i to September i, 1916 



513 



Receipts 




Disbursements 


Balance taken over 




Merchandise Purchases $9,620.00 


April 1, 1916 


$5,820.00 


Produce Purchases 13,110.00 


Notes Receivable 


5,5oo.oo 


Payment of Wages 4,000.00 


Accounts Receivable.. 


22,640.00 


Operating Expenses... 4,500.00 


Sales of Merchandise. 


. 53,75o.oo 


Expenses and Salary 


Sales of Produce 


. 24,800.00 


of Receiver 1,500.00 




Total $32,730.00 






Balance in Hands of 






Receiver 79,780.00 






Total 


$112,51000 


$112,510.00 



September 1, 1916 
First Entry 

Produce $4,340 

Merchandise 530 

To Profit and Loss 

For profit on sale of produce and merchandise. 



$4,870 



Second Entry 

Profit and Loss $10,625 

To Wages $4,000 

" Expenses 4,500 

" Receivership Expenses 1,500 

" Accrued Interest 625 

To close above accounts into Profit and Loss, 
and to enter up accrued interest. 

Third Entry 

Surplus and Deficiency $5,755 

To Profit and Loss $5,755 

To close Profit and Loss account into Surplus 
and Deficiency account. 



5H 



RECEIVERSHIP 



The foregoing entries when posted result in the follow- 
ing balance sheet as of September i, 1916. 

In case a Surplus and Deficiency account is not kept, 
the balance should be closed into the estate account. 

§ 417. (3) Receiver's Statement of Condition 

Receiver's Statement of Condition of 
Willis Grocery Company 

(As submitted to the meeting of stockholders and creditors at 
date of sale, September 1, 1916.) 



Assets 




Liabilities 




Buildings and Prop- 




Secured Bank Loans. 


$10,000.00 


erties 


$43,800.00 


Notes Payable 


15,000.00 


Less Mortgage Out- 




Accounts Payable 


91,460.00 


standing 


25,000.00 


Interest Accrued 

Total 


625.00 


Equity in Property. 


$18,800.00 


$117,085.00 


Store Equipment 


8,000.00 


Balance of Estate, be- 




Delivery Equipment. . 


8,000.00 


ing excess of Assets 




Investments ($12,000 




over Liabilities 


107,695.00 


pledged) 


22,000.00 






Merchandise 


22,000.00 






Produce 


2,500.00 






Notes Receivable 


5,200.00 






Accounts Receivable . 


58,500.00 






Cash on Hand 


79,780.00 


Total 




Total 


$224,780.00 


$224,780.00 



It is apparent from the above statement that the estate's 
deficit is $42,305 after allowing for $150,000 of outstand- 
ing capital. In other words, the stockholders have $107,695 
of their capital left. 

§ 418. (4) Entries for Sale and Dissolution 

The price secured for the business is slightly more 
($2,305) than the net value of the estate as shown by the 
receiver's statement of condition. As a going concern, how- 



RECEIVERSHIP AND SALE ^ 

ever, there is a good-will element which has not been stated 
in the balance sheet. 

In this illustration all the accounts in liquidation are 
cleared through a receiver's realization and liquidation ac- 
count as shown below. A further use of this account is 
shown in Chapter XXXVII, "Dissolution of Corporations." 

All transfers of properties must be made by the receiver 
and properly recorded in the county records. After trans- 
fer of the business to the purchases, the balance remaining 
would belong to the stockholders. In this case the stock- 
holders did not desire to continue a losing business with 
impaired capital; they therefore dissolved the corporation 
and directed the receiver to distribute the remaining assets 
to the stockholders. The court made its order to the same 
effect, and, after compliance and the rendition of his final 
accounting to the court, the receiver was discharged. 

First Entry (For transfer of assets to the purchasers) 
September i, 1916 

Realization and Liquidation Account $199,780 

To Sundry Assets (itemized) $199,780 

For sale and transfer of assets, as per re- 
ceiver's statement, to purchasers of the 
business, by resolution of the stockhold- 
ers and court order. (Mortgage is en- 
tered among the liabilities.) 

Cash to the amount of $50,000 is held back by the re- 
ceiver as per agreement. At the proper time he hands this 
over to the parties in interest. 

Second Entry (Transfer of liabilities to purchasers) 

Sundry Liabilities (itemized) $142,035 

To Realization and Liquidation Account $142,085 

For transfer of all liabilities (including 
mortgage) to the purchasers, by court 
order. 



5i6 



RECEIVERSHIP 



Third Entry (Receipt of stock from purchasers) 
Stock of New Company $60,000 

To Realization and Liquidation Account $60,000 

Being part of sale price agreed upon for 
the business as a going concern, the cash 
and stock to be turned over to the stock- 
holders by the receiver. 

Fourth Entry (To adjust profit on sale of business) 

Realization and Liquidation Account $2,305 

To Surplus and Deficiency $2,305 

To record profit realized on sale of busi- 
ness, this amount being in excess of the 
net worth. 

Fifth Entry (Adjustment of capital and surplus accounts and 
distribution of proceeds) 

Capital Stock $150,000 

To Cash $50,000 

" Stock of New Company 60,000 

" Surplus and Deficiency 40,000 

For distribution of cash and stock among 
the stockholders in proportion to their 
holdings, each receiving eleven-fifteenths 
in value of his former holdings; and for 
closing capital and surplus accounts. 

All book accounts of the dissolving company are now 
closed out, the company's charter is surrendered by due 
process, and the receiver discharged. 



CHAPTER XXXVII 
DISSOLUTION OF CORPORATIONS 

§ 419. Voluntary Dissolution 

In most of the states a corporation may be dissolved by 
its stockholders, the procedure being simple; and while in 
some states unanimous consent is required, in others two- 
thirds, three-fourths, or even a bare majority is enough to 
terminate the corporate existence. 

Many of the smaller corporations end their existence 
informally by failure to pay taxes or to make corporate 
reports, in consequence of which the state forfeits the 
charter under which they operate. 

In case of voluntary dissolution, the directors are the 
trustees authorized to settle the company's affairs, and 
they may bring this about in the simplest manner possible. 
The chief difficulty, however, lies in collecting outstanding 
accounts, and in disposing of properties without too great 
sacrifice. The liquidation of liabilities may begin at once, 
or as rapidly as cash is received. As the assets are sold, 
entries are made through the cash account ; a like procedure 
being required also for cash disbursements. Losses may 
be closed into some clearing account as "Profit and Loss," 
"Deficiency," or "Surplus" ; and this in turn, as a final step, 
is closed into the Capital Stock account. There is nothing 
peculiar about closing the books of a corporation when it is 
dissolved, and any accountant or bookkeeper can handle 
the situation without trouble. 

§ 420. Dissolution Through Bankruptcy 

The insolvency or bankruptcy of a corporation does not 

517 



5I 8 DISSOLUTION OF CORPORATIONS 

necessarily involve dissolution. Unless formal proceedings 
are taken to dissolve the corporation, it will survive and 
may be again used as a business organization. As there is 
a possibility of the officers and stockholders being involved 
in penalties and liabilities, it is safer to go through a formal 
dissolution. 

When a corporation becomes insolvent, its affairs are 
usually wound up by bankruptcy proceedings. As soon as 
the trustee in bankruptcy is appointed, he is required to 
make an inventory and appraisement of the estate, showing 
the exact condition of the insolvent corporation. This is 
known as a "Statement of Affairs," and is made in the 
simplest way possible for the convenience of both court and 
creditors. With the statement of affairs is frequently pre- 
sented a "Deficiency Account," showing the company's 
capital impairment and how such impairment or deficit of 
capital came about. 

A statement of aftairs is somewhat similar to a balance 
sheet. It is prepared from the books, schedules, creditors' 
claims, etc., and contains on one side all liabilities, dis- 
tinguishing between those which are unsecured, partially 
secured, or fully secured ; the preferred claims are set forth 
on the same side of the statement. On the other side, the 
assets of the concern are shown at their nominal or book 
value, and also at the value which they are expected to 
realize. Any assets which have been given or pledged as 
security for creditors' claims are separated from those which 
are available for distribution among the unsecured creditors. 
The difference between the two sides of the statement shows 
either the nominal net surplus or net deficiency, and is 
transferred to a special account known as the "Deficiency" 
account. Contingent liabilities should also be shown among 
the liabilities and the loss expected thereon should be 
indicated. 



DISSOLUTION OF CORPORATIONS 



519 



§ 421. The Deficiency Account 

The deficiency account shows on one side the net de- 
ficiency as transferred from the statement of affairs, the 
capital accounts, and the profits made on the business since 
its commencement or since a date when the books show it 
to have been in a sound condition. On the other side are 
shown the losses incurred in realizing upon the assets, any 
withdrawal of profits, and losses not otherwise provided for 
in the statement. 

The object of the deficiency account is to show the 
amount of any deficit and its various items. It shows to 
what extent the capital has been impaired or how far the 
company falls short of being solvent. It is practically a 
Profit and Loss account, but is opened only in case of in- 
solvency proceedings. The deficiency account and the 
items with which it is debited and credited are as fol- 
lows: 

Deficiency Account 



Debit: 

With dividends paid. 

With losses through failures 
as per Profit and Loss account. 

With shrinkage in assets as 
per statement of affairs. 

With depreciation of ac- 
counts receivable. 

With depreciation of mer- 
chandise. 

With depreciation of fixtures, 
etc. 



Credit: 

With capital investment. 

With surplus profits at clos- 
ing of previous period. 

With profit on trading. 

With balance, deficiency per 
statement of affairs. 



§ 422. Realization and Liquidation Account 

The realization and liquidation account is a summary 
of the assets to be realized and the liabilities to be liquidated, 
with the accompanying entries for assets actually realized 



520 DISSOLUTION OF CORPORATIONS 

and for liabilities liquidated. This account, or statement, 
can be readily understood by reference to the accompanying 
illustration. 

Realization and Liquidation Account 
Debit: \ Credit: 



With assets to be realized. 

With liabilities liquidated. 

With expenses of realization 
and liquidation. 

With supplementary charges 
if any. 



With liabilities to be liqui- 
dated. 

With proceeds of assets real- 
ized. 

With loss due to liquidation, 
charged to Capital account. 

With supplementary credits 
if any. 



This account is similar to that of the receiver or trustee 
to whom is given the duty of settling the company's affairs. 
He is charged with all the assets of the company turned 
over to him, and credited with all the liabilities assumed. 
He is then in turn credited for all cash received from 
realization of assets, cash being debited; and he is debited 
for all liabilities discharged, since they cease to be offsets 
to the assets taken in trust, cash at the same time being 
credited. It will be seen that the trustee's cash account 
becomes a supplement to the realization and liquidation 
account. 

§ 423. Statement of Condition 

The Longworth Store Company being unable to meet 
its obligations, is forced into bankruptcy by the creditors. 
From the books, from the schedules of the company's affairs, 
from creditors' proved claims, and from the appraisements, 
the following statement of condition has been ascertained 
as of May 1, 19 16, by the trustee in bankruptcy: 



DISSOLUTION OF CORPORATIONS 



521 



Cash on Hand $5,500.00 

Customers' Accounts, $1,000 good; $600 doubtful, but esti- 
mated to produce $200 ; $1,000 bad 2,600.00 

Property, estimated to produce $9,000 14,000.00 

Notes Receivable, good 4,250.00 

Securities, $3,000 pledged with partially secured creditors; 

remainder held by fully secured creditors 28,000.00 

Merchandise, expected to bring $15,000 24,650.00 

Dividends paid during year, 25% 6,250.00 

Trade Losses, due to drop in price of goods . 7,400.00 

Creditors Unsecured 25,000.00 

Preferred Claims — Wages, Salaries, and Taxes 700.00 

Creditors Partially Secured 23,900.00 

Creditors Fully Secured 17,000.00 

Capital Stock 25,000.00 

Surplus 1,050.00 

In the course of the bankruptcy proceedings the follow- 
ing accounting exhibits are required : 

1. A statement of affairs, showing the assets and the 

liabilities with respect to their realization and 
liquidation. 

2. A deficiency account, showing such of the above 

stated particulars as would account for the de- 
ficiency exhibited in the statement of affairs. 

3. A realization and liquidation account, showing 

settlement of the estate. 

§ 424. (1) Statement of Affairs 

The trustee, or his accountant, prepares the statement 
of affairs from information gleaned from the various 
sources open to him, and submits it, together with the com- 
plementary deficiency account, to the meeting of creditors. 
He submits also his inventory and appraisement to the 
court for record in the court journal. It is apparent that 
the trustee should either be an accountant himself, or should 
engage the services of an accountant for the determination 



q 2 2 DISSOLUTION OF CORPORATIONS 

of the company's condition and for compiling the many 
various details that will be found necessary in preparing his 
statements. 

A trial balance is compiled as a preliminary to the prepa- 
ration of a statement. The statement of affairs and the 
deficiency account which follow illustrate the manner of 
setting forth the information called for. The trustee's cash 
account is a simple statement of receipts and payments. All 
payments are to be supported by vouchers which, with all 
other records, are presented for the official audit at the 
proper time. Careful minutes are kept of all meetings of 
creditors, resolutions, court orders, etc., in order that a full 
report as to the existing conditions may be prepared when- 
ever required. 

The directors of a corporation are not usually liable for 
the debts of the company, but in the case illustrated an 
interim dividend has apparently been paid out of capital 
and, if this should be so, the amount must be made good by 
the directors. 

Trial Balance, May i, 191 6. 

Cash $5,500.00 

Customers 2,600.00 

Property 14,000.00 

Notes Receivable 4,250.00 

Securities 28,000.00 

Merchandise 24,650.00 

Dividends . . . 6,250.00 

Trade Losses 7,400.00 

Creditors Unsecured $25,000.00 

Creditors Partially Secured 23,900.00 

Creditors Fully Secured 17,000.00 

Wages, Salaries, Taxes 700.00 

Capital Stock 25,000.00 

Surplus from Previous Year 1,050.00 

$92,650.00 $92,650.00 



DISSOLUTION OF CORPORATIONS 523 

Longworth Store Company 

Statement of Affairs 
At Date of Failure, May i, 1916 

Assets Book Estimated 
Value to 

Realize 

Cash on Hand $5,500.00 $5,500.00 

Property 14,000.00 9,000.00 

Notes Receivable, good 4,250.00 4,250.00 

Customers : 

Good 1,000.00 1,000.00 

Doubtful 600.00 200.00 

Bad 1,000.00 

Merchandise 24,650.00 15,000.00 

Securities $28,000.00 28,000.00 

Pledged with Partially Secured Cred- 
itors, per contra 3,000.00 

$25,000.00 
Pledged with Fully Secured Creditors 

for Debts of $17,000 25,000.00 

Surplus of Securities, per contra 8,000.00 

Total $79,000.00 $42,950.00 

Deduct Preferred Creditors, per contra 700.00 

Assets Available for Dividends $42,250.00 

(Equivalent to a dividend of 92.07% on claims 
of 45,900, exclusive of realization expenses.) 
Balance, Deficiency per Deficiency account 3,650.00 

$45,900.00 



Liabilities Gross Expected 

Unsecured Creditors : Amount to Rank 

On Book Accounts $25,000.00 $25,000.00 



5 2 4 



DISSOLUTION OF CORPORATIONS 



Fully Secured Creditors: 

On Book Accounts $17,000.00 17,000.00 

Estimated Value of Securities 25,000.00 



Surplus, to contra. 



,000.00 



Partially Secured Creditors : 

On Book Accounts $23,900.00 23,900.00 

Estimated Value of Securities 3,000.00 



Preferred Creditors : 
Wages, Salaries, Taxes, deducted from assets 
per contra 



700.00 



Total $66,600.00 

Liabilities Due to Ranking Creditors 



20,000.00 



$45,900.00 



§ 425. (2) Deficiency Account 

Longworth Store Company 
Deficiency Account 
At Time of Failure, May i, 1916 
(Being an analysis of the deficiency as shown in the statement of 
affairs.) 



Debits 
Loss from Shrinkage 
in Assets : 
Property 


$5,000.00 
9,650.00 
1,400.00 


Credits 

Capital Stock Invested $25,000.00 
Surplus Profits from 

Previous Year 1,050.00 


Merchandise 

Customers' Accounts 




Total Credit $26,050.00 

Balance, Deficiency, per 

Statement of Affairs 3,650.00 


Total Shrinkage. . . 
Interim Dividends Paid 
Trade Losses 


$16,050.00 
6,250.00 
7,400.00 




$29,700.00 


$29,700.00 



Note: It will be seen that the capital and surplus, amounting to 
$26,050, have been wiped out. and $3,650 of the assets besides. 



DISSOLUTION OF CORPORATIONS 



525 



§ 426. Trustee's Cash Account 

The activities of the trustee in realizing upon assets and 
in liquidating liabilities are set forth in the following 
cash account. Several months are usually required for the 
settlement of an estate in bankruptcy, and during that period 
two or more dividends may be paid to creditors. 

First and Final Account of 
Alfred S. Dickinson, Trustee in Bankruptcy 
for the Estate of Longworth Store Company, 
Bankrupt 
December i, 1916 

The Trustee Charges Himself with 

Cash Taken Over $5,500.00 

Proceeds of Sale of Property 9,000.00* 

Profit on Sale of Property 1,000.00 

Proceeds of Sale of Merchandise 15,000.00* 

Profit on Sale of Merchandise 1,000.00 

Amounts Collected from Notes Receivable 4,250.00 

Amounts Collected from Customers 1,200.00 

Amounts Collected from Customers in Excess of Estimate 50.00 
Proceeds of Sale of Pledged Securities (less claims of 

Secured Creditors, $20,000, per contra) 28,000.00 

Total Debits $65,000.00 

The Trustee Takes Credit for 

Payment of Preferred Claims $700.00 

First Dividend to Unsecured Creditors, being 50% on $45,900 22,950.00 
Payment to Fully Secured Creditors from Sale of Pledged 

Securities, per contra 17,000.00 

Payment of Partially Secured Creditors, or Portion secured 

from Sale of Pledged Securities, per contra 3,000.00 

Expenses of Administration and Commission to Trustee 2,500.00 

Total Credits $46,150.00 

Final Dividend of 41.07% by Order of Court 18,850.00 

Total Payments $65,000.00 

*These are the amounts as per Statement of Affairs. 



5 26 DISSOLUTION OF CORPORATIONS 

Summary 

Total Receipts of Cash $65,000.00 

Total Payments to Secured and Preferred Cred- 
itors and for Expenses 23,200.00 

Total Dividends to Creditors, being 91.07% $41,800.00 



§ 427. (3) The Realization and Liquidation Account 

As previously stated, this is a summary of the trustee's 
records in selling the properties and collecting debts due to 
the bankrupt estate, and also of liabilities paid by him. In 
the following illustration the assets and liabilities are shown 
separately for greater convenience in illustrating the divi- 
sions and cancellations : 

Realization and Liquidation Account 
Of Longworth Store Company 

As of December i, 1916 
Account of Assets 



To be Realized : 




Realized : 




Cash (see Cash Ac- 




Property 


$10,000.00 


count) 




Merchandise 


16,000.00 


Property 


$9,000.00 


Securities 


28,000.00 


Merchandise 


15,000.00 


Notes Receivable 


4,250.00 


Securities 


28,000.00 


Customers' Accounts 


1,250.00 


Notes Receivable 


4,250.00 






Customers' Accounts 


1,200.00 






Total 


$57,450.00 




Supplementary Charges 








Increase in Value of 








Property over Ap- 








praisement 


1,000.00 






Increase in Value of 








Merchandise over 








Appraisement 


1,000.00 






Customers' Increase. 


50.00 








$59,500.00 


$59,500.00 



DISSOLUTION OF CORPORATIONS 
Account of Liabilities 



527 



Liquidated 

Preferred Claims $700.00 

Secured Creditors... 20,000.00 
First Dividend to 

Creditors 22,950.00 

Second Dividend to 

Creditors 18,850.00 

Total $62,500.00 

Commissions and Ex- 
penses 2,500.00 

Balance, Loss to Cred- 
itors, carried to Capi- 
tal Account 4,100.00 



$69,100.00 



To be Liquidated : 

Preferred Claims $700.00 

Secured Creditors... 20,000.00 

Unsecured Creditors 25,000.00 
Partially Secured 

Creditors 20,900.00 



Total $66,600.00 

Supplementary Credits : 
Commission and Ex- 
pense of Trustee.. 2,500.00 



$69,100.00 



Trustee's Cash Account 



Receipts 




Payments 




Amount on Hand 


$5,500.00 


Preferred Claims 


$700.00 


Sale of Property 


10,000.00 


First Dividend, 50%... 


22,950.00 


Sale of Merchandise.. 


16,000.00 


Secured Claims 


17,00000 


Notes Receivable 


4,250.00 


Secured Claims 


3,000.00 


Customers' Accounts . . 


1,250.00 


Expenses and Commis- 




Sale of Securities 


28,000.00 


sions 


2,500.00 




Dividend, 41.07% Final 






Settlement 


18,850.00 




$65,000.00 


$65,000.00 



Note; Vouchers for all cash disbursements should be available. 



APPENDIX 

INCORPORATION FORMS 

Form i. New York Charter 

Certificate of Incorporation 

OF THE 

Hampton Trading Corporation 

We, the undersigned, all being of full age and two-thirds being 
citizens of the United States and one of us a resident of the State of 
New York, for the purpose of forming a corporation under the Busi- 
ness Corporations Law of the State of New York, do hereby certify 
and set forth : 

First. The name of said corporation shall be: 
"Hampton Trading Corporation." 

Second. The purposes for which said corporation is to be formed 
are as follows: 

(a) To buy, sell, produce, manufacture, and dispose of all 
kinds of goods, wares, foods, potables, drugs, merchandise, manu- 
factures, commodities, furniture, machinery, agricultural tools, sup- 
plies and products, and generally to engage in and conduct any 
form of manufacturing or mercantile enterprise not contrary to law. 

(b) To lease, buy, sell, use, mortgage, improve, and otherwise 
handle, deal in, and dispose of all such property, real and personal, 
as may be necessary or convenient in connection with the aforesaid 
business of the Company. 

(c) To conduct and transact business in any of the states, 
territories, or colonial dependencies of the United States and in 
any foreign country or countries, to have offices therein, and to 
hold real and personal property therein without limit, subject to 
the local law. 

Third. The amount of capital stock of said corporation shall be 
Two Hundred and Fifty Thousand Dollars ($250,000). 

The amount of capital with which said corporation will begin 
business is Ten Thousand Dollars ($10,000). 

Fourth. The number of shares of which said capital stock is to 
consist shall be Two Thousand, Five Hundred (2,500) Shares of the 
par value of One Hundred Dollars ($100) each. 

529 



530 FORMS 

Fifth. The principal business office of said corporation shall be 
located in the Borough of Manhattan and in the City, County, and 
State of New /ork. 

Sixth. The duration of said corporation shall be perpetual. 

Seventh. The number of directors of said corporation shall be 
five. 

Eighth. The names and post-office addresses of the directors of 
said corporation for the first year are as follows : 

Names Addresses 

Charles W. Hampton, 167-169 Center St., New York City 
Samuel Johnson, 
James J. Miller, 

Lincoln Webster, 735 Main St., Albany, New York 

Robert W. Kester, 

Ninth. The names and post-office addresses of the subscribers to 
this certificate, and the number of shares which each agrees to take in 
said corporation are as follows : 

Names Addresses Shares 

Charles W. Hampton, 167-169 Center St., New York City, 1,250 

Samuel Johnson, 500 

James J. Miller, " " 500 

Tenth. At all elections of directors of this corporation, each 
stockholder shall be entitled to as many votes as shall equal the number 
of his shares of stock, multiplied by the number of directors to be 
elected, and he may cast all of such votes for a single director or may 
distribute them among the number to be voted for, or any two or 
more of them, as he may see fit. 

In Witness Whereof, we have made and signed this certificate in 
duplicate this 5th day of June, 1916. 

Charles W. Hampton 
Samuel Johnson 
James J. Miller 
State of New York 1 

rSS ' 

County of New York J 

Personally appeared before me this 5th day of June, 1916, Charles 
W. Hampton, Samuel Johnson, and James J. Miller, to me personally 
known to be the persons described in and who executed the foregoing 
certificate and severally acknowledged that they executed the same for 
the purposes set forth. Albert Burrell> 

f notarial^) Notary Public for 

\ seal J New York County 



FORMS 



53 



Form 2. By-Laws* 



By-Laws 

OF THE 

Hampton Trading Corporation 
New York 

Article I — Stock 

1. Certificates of Stock shall be issued in numerical order from 
the stock certificate book, be signed by the President and Treasurer, 
and be sealed by the Secretary with the corporation seal. A record of 
each certificate issued shall be kept on the stub thereof. 

2. Transfers of Stock shall be made only upon the books of the 
Company by the holder thereof in person, or by his duly authorized 
attorney. The stock books of the Company shall be closed to transfers 
twenty days before general elections and ten days before dividend 
days. 

3. The Treasury Stock of the Company shall consist of such 
issued and outstanding stock of the Company as may be donated to the 
Company or otherwise acquired, and shall be held subject to disposal 
by the Board of Directors. Such stock shall neither vote nor participate 
in dividends while held by the Company. 

Article II— Stockholders 

1. The Annual Meeting of the stockholders shall be held in the 
principal office of the Company in New York City, on the fourth 
Saturday of December of each year, at eleven o'clock a.m., if not a 
legal holiday; but if a legal holiday, then on the following Monday. 

2. Special Meetings of the stockholders may be called at the 
principal office of the Company at any time, by resolution of the Board 
of Directors, or upon written request of the stockholders holding one- 
third of the outstanding stock. 

3. Notice of Meetings, written or printed, for every regular or 
special meeting of the stockholders, shall be prepared and mailed to 
the last-known post-office address of each stockholder, not less than 
ten days before any such meeting, and if a special meeting, such notice 
shall state the object or objects thereof. 

4. A Quorum at any meeting of the stockholders shall consist of 
a majority of the voting stock of the Company, represented in person 
or by proxy. A majority of such quorum shall decide any question 
that may come before the meeting. 



h See Conyngton's "Corporate Organization." 



5g 2 FORMS 

5. The Election of Directors shall be held at the annual meeting 
of the stockholders. The election shall be by ballot and each stock- 
holder of record shall be entitled to cast five votes for each share of 
stock held by him, and such votes may be cast all for one director 
or be distributed among the number to be elected, in any manner the 
voting stockholder may desire. 

6. The Order of Business at annual meetings and, as far as it 
applies, at all other meetings of the stockholders, shall be : 

1. Calling of roll 

2. Proof of due notice of meeting 

3. Reading and disposal of any unapproved minutes 

4. Annual reports of officers and committees 

5. Election of directors 

6. Unfinished business 

7. New business 

8. Adjournment 

Article III — Directors 

1. The Business and Property of the Company shall be managed 
by a Board of five Directors, who shall be stockholders and who shall 
be elected annually by the stockholders for the term of one year, and 
shall serve until the election and acceptance of duly qualified suc- 
cessors. Any vacancies may be filled by the Board for the unexpired 
term. 

2. A regular Meeting of the Board of Directors shall be held in 
the principal office of the Company in New York City, on the last 
Saturday of each month, at 12 noon, if not a legal holiday; but if a 
legal holiday, then on the following Monday. 

3. Special Meetings of the Board of Directors, to be held in the 
principal office of the Company in New York City, may be called at 
any time by the President, or by unanimous written consent of all 
the members, or by the presence of all members at such meetings. 

4. Notices of both regular and special meetings shall be mailed 
by the Secretary to each member of the Board not less than five days 
before any such meeting, and notices of special meetings shall state 
the purposes thereof. 

5. A Quorum at any meeting shall consist of the majority of the 
entire membership of the Board. 

6. Officers of the Company shall be elected by ballot of Directors 
at the first meeting after the election of Directors each ye'ar. Vacancies 
on the Board shall be filled for the unexpired term. The Board of 
Directors shall fix the compensation of the officers and agents of the 
Company. 



FORMS 



533 



7. The Order of Business at any regular or special meeting of the 
Board of Directors shall be : 

1. Reading, and disposal of any unapproved minutes 

2. Reports of officers and committees 

3. Unfinished business 

4. New business 

5. Adjournment 

Article IV — Officers 

1. The Officers of the Company shall be a President, a Vice- 
President, a Secretary, and a Treasurer, who shall be elected for one 
year, and shall hold office until their successors are elected and qualified. 
The positions of Secretary and Treasurer may be united in one person. 

2. The President shall preside at all meetings, shall have general 
supervision of the affairs of the Company, shall sign or countersign 
all certificates, contracts, and other instruments of the Company, as 
authorized by the Board of Directors; shall make reports to the 
Directors and stockholders, and perform all such duties as are incident 
to his office or are properly required of him by the Board of Directors. 
In the absence or disability of the President, the Vice-President shall 
exercise all his functions. 

3. The Secretary shall issue notices for all meetings, shall keep 
their minutes, shall have charge of the seal and the corporate books ; 
shall sign, with the President, such instruments as shall require such 
signature, and shall make such reports and perform such other duties 
as are incident to his office, or are properly required of him by the 
Board of Directors. 

4. The Treasurer shall have the custody of all moneys and securi- 
ties of the Company, and shall keep regular books of account and 
balance the same each month. He shall sign or countersign such 
instruments as require his signature, shall perform all duties of his 
office or that are properly required of him by the Board, and shall 
give bond for the faithful performance of his duties in such sum and 
with such sureties as may be required by the Board of Directors. 

Article V — Dividends and Finances 

1. Dividends shall be declared only from the surplus profits, at 
such times as the Board of Directors shall direct; and no dividends 
shall be declared that will impair the capital of the Company. 

2. The Moneys of the Company shall be deposited in the name of 
the Company, in such bank or trust company as the Board of Directors 
shall designate, and shall be drawn out only by check signed by the 
Treasurer and countersigned by the President. 



534 



FORMS 



Article VI— Seal 



I. The Corporate Seal of the Company shall consist of two con- 
centric circles, between which is the name of the Company, and in the 
center shall be inscribed "Incorporated 1916, New York," and such 
seal, as impressed on the margin hereof, is hereby adopted as the 
corporate seal of the Company. 

Article VII — Amendments 

1. These By-Laws may be amended, repealed, or altered, in 
whole or in part, by a three-fifths vote of the entire outstanding stock 
of the Company, at any regular meeting of the stockholders, or at any 
special meeting where such action has been announced in the call and 
notice of such meeting. 

2. The Board of Directors may adopt additional by-laws in 
harmony therewith, but shall not alter nor repeal any by-laws adopted 
by the stockholders of the Company. 

Form 3. Certification of By-Laws 

We, the undersigned, Charles W. Hampton and Samuel Johnson, 
respectively the duly elected President and Secretary of the Hampton 
Trading Corporation, a corporation organized under the laws of the 
State of New York, do hereby certify that the foregoing By-laws 
are the By-laws of the said corporation, duly adopted by the stock- 
holders of said corporation at their first meeting held on the 9th day 
of June, 1916, in the office of the said corporation, 167-169 Center 
Street, New York City, as shown by the minutes of said meeting. 

In Testimony Whereof, we have hereunto affixed our official 
signatures and the corporate seal of said corporation, this 9th 
day of June, 1916. Samuel j hnson, 

f corporate^ Secretary 

\ seal J 

Charles W. Hampton, 

President 

Form 4. Minutes of First Meeting of Stockholders 

Hampton Trading Corporation 

Minutes of First Meeting of Stockholders 

Held June 9, 1916 

Pursuant to written call and waiver of notice signed by all the 

incorporators, the first meeting of the Hampton Trading Corporation 



FORMS 535 

was held in its principal office, 167-169 Center Street, New York City, 
at 4 p.m. on the 9th day of June, 1916. 

Mr. Charles W. Hampton called the meeting to order, and by 
motion unanimously carried was appointed Chairman. Mr. Samuel 
Johnson was appointed Secretary. 

There were present in person: Charles W. Hampton and Samuel 
Johnson. 

James J. Miller's proxy was presented by Charles W. Hampton 
and was ordered filed with the Secretary. 

The Secretary presented and read the call and waiver pursuant 
to which the meeting was held. On motion it was ordered to be 
entered in the minute book following the minutes of the meeting. 

The Chairman then presented a copy of the Certificate of In- 
corporation and stated that the original had been filed with the 
Secretary of State on the 6th day of June, 1916, and that a duplicate 
copy had beeen filed for record with the County Clerk on the 8th day 
of June, 1916. 

Upon motion duly made and carried, said Certificate of Incorpora- 
tion was ordered received, the Directors named therein were recognized 
as the Directors of the Company, and the Secretary was instructed to 
spread the said Certificate in full upon the first pages of the book 
of minutes. 

The Chairman presented a form of By-laws prepared by Counsel 
for the Company, which was read, article by article, and as a whole 
unanimously adopted and ordered to be entered in the book of minutes 
immediately following the Certificate of Incorporation. 

The Secretary then presented a written proposal from Charles W. 
Hampton, of 167-169 Center Street, New York City, offering to transfer 
and assign to the Company his entire plant and business, comprising 
all of his assets and liabilities in exchange for One Thousand, Two 
Hundred and Fifty (1,250) Shares of the capital stock of the Company. 

After due consideration, the Hampton proposal was ordered re- 
ceived and the following resolution in regard thereto was moved, 
seconded, and passed by unanimous vote: 

Whereas, a proposition has been received from Charles W. 
Hampton, offering to sell, assign, and convey to this Company 
the plant, property, all assets and liabilities, and all of his estab- 
lished mercantile business, as a going concern, in exchange for 
One Thousand, Two Hundred and Fifty (1,250) Shares of stock in 
this Company; and 

Whereas, it appears to the stockholders of this Company that 
the said property and business are desirable for the purposes of 
the Company and are reasonably worth the purchase price thereof : 



536 



FORMS 



Now, Therefore, Be It Resolved, that the said proposal for 
the exchange of said business, property, assets and liabilities for 
One Thousand, Two Hundred and Fifty (1,250) Shares of the 
capital stock of this Company, as set forth in said proposal, be 
and hereby is approved, and the Directors of this Company are 
hereby authorized, empowered, and instructed to accept the said 
proposal, and to issue One Thousand, Two Hundred and Fifty 
(1,250) Shares of stock of the Company for the said property and 
business in accordance with the terms. 

There being no further business, the meeting was declared ad- 
journed. 

Samuel Johnson, 

Secretary 
Charles W. Hampton, 

Chairman 

Form 5. Proxy — First Stockholders' Meeting 

Proxy 

for 

First Meeting of Stockholders 

Know All Men By These Presents, that I, the undersigned, one 
of the incorporators of the Hampton Trading Corporation and a sub- 
scriber to the stock thereof, do hereby constitute and appoint Charles 
W. Hampton my true and lawful attorney, with full powers of sub- 
stitution and revocation, to represent me at the first meeting of the 
stockholders of said corporation, to be held on the 9th day of June, 
1916, and at any meeting postponed or adjourned therefrom, hereby 
granting my said attorney full power and authority to act for me at 
said meeting, and in my name, place, and stead to vote thereat upon 
the stock of said corporation subscribed for by me, or upon which I 
may then be entitled to vote, in the transaction of any and all busi- 
ness pertaining to the affairs of the Company that may be brought 
before said meeting, all as fully as I might or could do if personally 
present, and I hereby ratify and confirm all that my said attorney, 
or his substitute, shall lawfully do at such meeting in my name, place, 
and stead. 

In Witness Whereof, I have hereunto affixed my signature this 
9th day of June, 1916. 

James J. Miller [l. s.] 
In presence of 

Walter H. King 



FORMS 537 

Form 6. Call and Waiver of Notice — First Meeting of 
Stockholders 

Call and Waiver of Notice 

FOR 

First Meeting of Stockholders 

We, the undersigned, being all of the incorporators of the Hamp- 
ton Trading Corporation, and all the subscribers to its capital stock 
entitled to notice of said meeting, do hereby call the first meeting of 
the stockholders of said corporation, to be held in the principal office 
of the Company, 167-169 Center Street, New York City, at 4 p.m. on 
the 9th day of June, 1916, for the purpose of receiving the charter, 
adopting by-laws, considering and acting upon a proposal for the issue 
of One Thousand, Two Hundred and Fifty (1,250) Shares of the 
capital stock of the corporation in exchange for property, and the 
transaction of all such other business as may be necessary or convenient 
in connection with the organization of said corporation, and we do 
hereby waive all requirements as to notice or publication of the time, 
place, and purposes of this first meeting and do consent to the trans- 
action thereat of any and all business pertaining to the affairs of the 
Company. 

Dated, New York City, Charles W. Hampton 

June 9, 1916. Samuel Johnson 

James J. Miller 

Form 7. Minutes of First Meeting of Directors 

Hampton Trading Corporation 

Minutes of First Meeting of Directors 

Held June 9, 1916 

Pursuant to written call and waiver of notice, the Board of 

Directors of the Hampton Trading Corporation held its first meeting 

in its principal office at 167-169 Center Street, New York City, at 5 p.m. 

on the 9th day of June, 1916. 

Mr. Charles W. Hampton called the meeting to order, and on 
motion was elected temporary Chairman. Mr. Samuel Johnson was 
appointed Secretary pro tern. 
There were present: 

Charles W. Hampton 
Samuel Johnson 
James J. Miller 
Lincoln Webster 
Robert W. Kester 



538 



FORMS 



The Secretary presented the call and waiver of notice, pursuant to 
which the meeting was held, duly signed by all the Directors. It was 
ordered spread upon the minute book immediately following the 
minutes of the meeting. 

The Chairman then presented a form of By-laws adopted by the 
stockholders at their first meeting, and stated that the next order of 
business as set forth therein was the election of a President, Vice- 
President, Secretary, and Treasurer, to serve for the ensuing cor- 
porate year and until the election and acceptance of their successors. 
The following officers were then elected by unanimous vote: 

President Charles W. Hampton 

Vice-President Lincoln Webster 

Secretary Samuel Johnson 

Treasurer James J. Miller 

The permanent officers of the Company then took charge of the 
meeting. 

By motion, duly seconded and passed, the amount of the Treas- 
urer's bond was fixed at Three Thousand Dollars ($3,000), such bond 
to be in form and with sureties approved by the Board. 

The Treasurer-elect then presented a bond for said amount, 
signed by himself as principal, and by the Fidelity Guarantee Company 
of New York City as sureties. The form of the instrument and the 
sureties thereon meeting with the approval of the Board, the bond as 
presented was formally accepted and placed in custody of the President. 

The Secretary then presented a form of stock certificate for 
approval, which was by motion adopted as the stock certificate of the 
Company; and the Secretary was instructed to spread the said form 
upon the pages of the minute book immediately following the record 
of the meeting. 

The President then presented a written proposal from Charles W. 
Hampton, of 167-169 Center Street, New York City, offering to assign 
to the Company in exchange for One Thousand, Two Hundred and 
Fifty (1,250) Shares of stock, the assets and liabilities shown on the 
accompanying balance sheet, estimated to be worth One Hundred and 
Twenty-Five Thousand Dollars ($125,000). The 6aid proposal was 
ordered spread in full upon the minutes, and is as follows : 

{Here should be recorded the proposal for the exchange of property 
for stock and the balance sheet which accompanies it.) 

The President then presented the resolution of the stockholders, 
approving of said proposition, and authorizing and instructing the 
Directors to accept the same and to take such action in regard thereto 
as might be necessary to make such acceptance fully effective. 



FORMS 539 

The President then called the Vice-president to the chair and with- 
drew during the discussion and vote upon the proposal. 

The following resolution was thereupon moved, seconded, and 
after due discussion was unanimously adopted: 

Whereas, the property offered in exchange for One Thousand, 
Two Hundred and Fifty (1,250) Shares of the capital stock of 
this Company by Charles W. Hampton, in his proposition to the 
Company, is adjudged by this Board to be of the reasonable value 
of One Hundred and Twenty-Five Thousand Dollars ($125,000) 
and to be necessary for the use and lawful purposes of the 
Company; 

Resolved, that the said property be received, and that this 
Board of Directors hereby, in accordance with the authorizations 
and instructions of the stockholders of this Company, accept the 
same in full payment for the said One Thousand, Two Hundred 
and Fifty (1,250) Shares of the capital stock of the Company, in 
accordance with the terms of said proposal ; and the proper officers 
of this Company be hereby authorized and directed to receive the 
duly executed transfers and assignments of the property and busi- 
ness specified in said proposal, and to issue in exchange therefor 
One Thousand, Two Hundred and Fifty (1,250) Shares of stock 
of the Company, all full-paid and non-assessable, to such person 
or persons as may be designated by the written order of the 
aforementioned Charles W. Hampton. 

The President was recalled to the room and resumed the chair. 
Upon motion duly made, seconded, and passed, the following 
resolution was adopted. 

Resolved, that the Treasurer be and hereby is authorized and 
instructed to open an account for the Company with the Seaboard 
National Bank, of New York City, and to deposit therein all the 
funds of the Company coming into his custody; such account to 
be in the name of the Company and funds deposited therein to be 
withdrawn only by check signed by the Treasurer and counter- 
signed by the President. 

The following motions were then made, seconded, and duly passed 
by the unanimous vote of all present : 

Moved, that the office of Charles W. Hampton at 167-169 Center 
Street, New York City, as acquired by the Company, be and hereby 
is designated as the principal office of the Company within the 
State of New York. 



54Q 



FORMS 

Moved, that the Secretary be hereby instructed to purchase all 
such record, stock and transfer books, and all such books of 
account and stationery and office supplies, as may be necessary for 
the proper operation and record of the Company's business. 

Moved, that the Treasurer be and hereby is authorized and 
directed to pay out of the funds of the Company the sum of 
Five Hundred Dollars ($500) or so much of it as may be necessary 
to defray the cost of incorporation of the Company and the 
expenses incident thereto. 

Moved, that Lincoln Webster, Samuel Johnson, and James J. 
Miller be hereby appointed inspectors of election to serve at the 
first annual election of Directors of the Company, and at any 
election of Directors by the stockholders previous thereto. 

There being no further business for consideration, the meeting 
was adjourned. 

Samuel Johnson, 

Secretary 
Charles W. Hampton, 

President 



Pursuant to the instructions of the preceding minutes, the following 
instruments are hereunto appended in the order given: 

1. Call and waiver of notice 

2. Form of stock certificate 

Form 8. Call and Waiver of Notice — First Meeting of 
Directors 

Call and Waiver of Notice 

FOR 

First Meeting of Directors 

We, the undersigned, being all the Directors of the Hampton Trad- 
ing Corporation, do hereby call the first meeting of said Directors to 
be held in the office of the Company at 167-169 Center Street, New 
York City, at 5 p.m. on the 9th day of June, 1916, for the purpose of 
electing officers of the Company, acting upon a proposition for the 
issue of One Thousand, Two Hundred and Fifty (1,250) Shares of 
the capital stock of the Company in exchange for property, and the 
transaction of all such other business as may be necessary or desirable 



FORMS 54! 

in connection with the organization of the Company and the promotion 
of its business, and we hereby waive all statutory and by-law require- 
ments as to notice of time, place, and object of this first meeting, and 
consent to the transaction thereat of any and all business pertaining to 
the affairs of the Company. 

Charles W. Hampton 
New York City, Samuel Johnson 

June 9th, 1916. James J. Miller 

Lincoln Webster 
Robert W. Kester 

Note : For general form of stock certificate, see Chapter V. 



INDEX 



Accident reserves, 333, 334 
Accountant, duty of, 165 
Accounting, ^See also "Ac- 
counts," and "Statements") 
closing of books, 320-337 
entries, 

bonds (See "Bonds") 
capital stock donated, 119, 120, 

121, 122 

capital stock, original issue, 

101-118 
capital stock sold above par, 

114 
capital stock sold below par, 

112, 113, 114 
cash, 165, 170 
dividends, 101 
entries, closing, 

manufacturing uusiness, 360- 

362 
trading business, 370-373 
entries, opening, 162, 167, 168, 
172, 173, 186-191 
capital stock sold after organ- 
ization, in, 112 
stock full paid, 103, 104, 105, 

106 
stock on instalments, 106, 107, 
108, 109 
ledger accounts, stock on instal- 
ments, 109, no, III 
methods, statistics frequently 

govern, 45 
profits, method of entering, 101 
pro forma statement, 103 
Accounts, (See also "Account- 
ing") 
accrued interest on bonds, 97 
bond discount, 96 
bond premium, 95, 96 



bonds, 95 

bonus, 125 

books of (See "Books") 

capital stock authorized, 82, 85 

capital stock, common, 80, 81 

capital stock, preferred, 81 

capital stock subscribed, 85 

capital stock without par value, 
89, 90, 91 

distinctive corporate, 80-100 

dividends, 94, 95 

donation, 87 

good-will, 99, 100 

instalment, 86 

interest on bonds, 97 

interest on mortgages, 97 

investments, 100, 128 

ledger, 170, 171 

organization expenses, 92 

premium on capital stock, 88 

reserve, permanent, 99 

sinking fund, 98 

sinking fund reserve, 98, 99 

stock discount, 88, 113 

subscriptions to stock, 84 

surplus, 93, 94 

surplus or unappropriated prof- 
its, 92 

treasury stock, 87 

unissued stock, 81, 82, 83 
Accruals, closing of books, 321 
Accrued interest on bonds ac- 
count, 97 
Adjustment bond, 218 
Agricultural organizations, 

tax (federal) exempt, 387 
Allotment of capital stock, 183 
American Telegraph & Telephone 
Co., 

bonds, convertible, 213 



543 



544 



INDEX 



Amortization, 
organization expenses, 92 
profit on sale of capital stock, 
88 
Annual meeting (See "Meetings, 

annual") 
Assessment (See "Taxes") 
Assets, (See also "Balancesheets") 
contingent, 

closing of books, 322 
deferred, 
bond discount, 96 
bonus account, 125 
organization expenses, 92 
fixed, 

good-will, 99, 100 
inflation of values, 94 
hidden (See "Reserves") 
intangible, capital stock issued 

for, 24 
reserves negatives to, or de- 
ductions from, 331 
Assignment, 

capital stock certificate, 64 
subscriptions and instalments, 57 
Attorney, duty of, 165^ 

B 

Balance sheets, 339-343 
capital stock, 
common, par value not given, 

90, 91 
cumulative preferred stock, 90 
consolidated, 456-468 
deficit, method of showing, 

462 

holding company, 452, 453, 458, 

460, 461, 464, 465 

incorporation of partnerships 

(Illinois), 185, 186, 195, 196 

manufacturing corporation, 356, 

357 
proprietorship, changing to cor- 
poration, 158 



reorganization of corporation, 
471, 472, 476, 477, 480 

sinking funds, treatment of, 301, 
302 

trading corporation, 368, 369 
Baldwin Locomotive Works, 

sinking fund provisions, 281 
Bankruptcy, 

dissolution of corporation, 517, 
5i8 

receiver in, 485 
Banks, 

capital stock issued at premium, 
116 

capital stock subject to special 
liabilities, 20 

dividends paid by, 153 

federal land, federal tax exempt, 
388 

joint-stock land, federal tax ex- 
empt, 388 

mutual savings, federal tax ex- 
empt, 387 

national, surplus contributed, 
336 

surplus distinguished from un- 
divided profits, 335 
Benefit reserves, 333, 334 
Benevolent organizations (See 
"Charitable corporations") 
Boards of trade, 

non-stock corporations (N. Y.), 

3 
tax (federal) exempt, 387 
Bond, 
capital stock certificate reissue 

may require, 11 
Bond discount account, 96. 
Bond dividends (See "Dividends, 

bond") 
Bondholders' index, 231, 235 
Bond premium account, 95, 96 
Bond register, 231, 232, 233 



INDEX 



545 



Bonds, (See also "Coupons") 
account, 95 
adjustment, 218 
bonded indebtedness, 203 
cancelled, 203 
cancelled through sinking fund, 

297, 298 
capital stock preferred compared 

with, 24 
car trust, 219 
classification of, 208 
collateral trust, 209, 217, 245- 
248 
not.es, short term, 246 
Public Service Commission 
(N. Y.) requirements, 246, 
247 
consolidated, 218 
construction, 219 
convertible, 213 ,214 
coupon, 210, 221-223, 224, 225 
collection on, 252, 253, 254 
form of coupon, 225, 226 
payment of, 236 
debenture, 208, 209, 217 

dividends paid with, 152 
default on, 317, 318 
defined, 197 
denomination of, 198 
discount and premium on, 266- 
278 
accounting entries, 268 
effective rate method, 270-272 
nature of, 269 
treatment of, 269 
dividends on, 216, 217 
entries, 239-278, (See also "re- 
demption" below) 
sinking fund, 279-304 
equipment, 219 
equipment trust, 219 
redemption of, 316 
equipment trust serial, 248-250 
accounting entries, 250 



escrow, 202 

expenses covering issue, ac- 
counting entries, 267 
extension, 219 
first mortgage, 212 
form of, 221-230 
funded debt, 203 
gold, 213 

guaranteed, 217, 218, 245 
liability of guarantor contin- 
gent, 317 
redemption of, 317 
income, 217 

interest on, 261, 262 
interest on, 210, 218, 235, 252- 
265 
accruals monthly, 255 
effective interest method, 274- 

278 
equal instalment method, 275- 

278 
issues, two or more, 257, 258 
legal proceedings to collect, 

24 
outstanding method, 275-278 
payment of, 252-255 
unpaid, may mature bonds 
prematurely, 24 
issuance of, 199-201 

procedure, 200 
issued and outstanding, Inter- 
state Commerce Commis- 
sion designation of, 203, 204 
issues, 
authorization, 198, 199 
"authorized," 202 
Constitutional provisions af- 
fecting, 199 
deed of trust, 226-230 
defined, 198 
expenses covering, 268 
"nominally outstanding," 202 
"outstanding," 202 



546 



INDEX 



Bonds — continued 
issues — continued 
Public Utility Commissions' 
authorization, 198, 199, 200 
regulations covering, 240 
sinking funds for redemption 

of, 279-304 
statutes affecting, 199 
stockholders' assent required, 
199 
kind of, 212 

mortgage, 206, 209, 212, 246 
class of, 209 
first, sale at par, 241 
junior lien, 209, 212, 213 
negotiable instruments, 

holders' rights, 206 
negotiable instruments if pay- 
able "to order," etc., 197 
nominal issued, pledged as se- 
curity for bank loans, 316 
participating, 198, 216, 217 
premium on (See "Bonds, dis- 
count and premium on") 
preparation of, 201 
prices of, 213, 214 
profit-sharing, 216, 217 
purchase money, 220 
realty covered by deed of trust, 

200 
redeemable, 215, 216 
redeemed, cremation of, 318, 319 
redemption of, 206, 215, 216, 305- 

319 
accounting entries, 295, 296, 

310, 312-317 
collateral trust bonds, 314, 315 
convertible bonds, 314 
drawn by lot, 308, 309 
methods of, 305 
notes, short term, 316 
notice, 310 

refunding bonds, 310-312 
serial bonds, 313, 314 



sinking fund, 306-308 
refunding, 218, 310-312 

accounting entries, 312 
registered, 207, 210, 211 
assignment of, 211 
exchange for coupon bond, 

211 
interest on, 255 
pledges of, 207 
transfer of, 234 
reorganization, 218 
sale of, 205, 239-251 
accounting entries covering, 

242 
between interest dates, 267 
interest accrued on sales at 

par, 243 
usury, 205 
seal required in execution of, 197 
serial, 214, 215 
accounting entries for re- 
demption, 313 
special issues, interest on, 262 
"subscribed," 202 
subscriptions, instalment pay- 
ments, 244 
suit for non-payment at matu- 
rity, 207 
terminal, 219 

terminology covering, 202, 203 
treasury, 202 

interest on, 259-261 
trustee for, 200 
trustee's certificate, 200 
underlying, 213 
underwriting, 239 
unsubscribed, 202 
Bonus account, 125 
Bonus capital stock, 21 
Books, corporate, 44-79, 139, 140, 
231-238 (See also "Bond 
register," "Stock book," 
etc.) 
Pennsylvania statutes, 167 



INDEX 



547 



Brokers, stock book or ledger re- 
quired in N. Y., 75, 76 
Building and loan associations, 
tax (federal) exempt, 387 
Business leagues, tax (federal) 

exempt, 387 
Business organization, 
corporation, 1, 13, 14 
partnership, 1, 12, 13 
proprietorship, 1 
By-laws, 
charter prevails over, 6 
directors make, authorization 

required, 6 
dividends affected by, 133, 134 
meetings, 
annual, 31 
notice of, 33 
proxies, 32 
New York form of, 531-534 
quorum specified in, 33, 39 
stockholders make, 6 
subordinate to state laws, 6 
transfer book closing and open- 
ing, 32 



Calendar, corporate, 30, 40, 41, 42 

essentials to be recorded, 41 

New York corporation, 41, 42, 
43 
Call and waiver of notice, 

directors' meeting, 540, 541 

stockholders' meeting, 537 
Capital, 

actual, 16 

impairment of, 91, 93, 154, 155 

nominal, 16 

property, 16 

share, 16 

working, defined, 17 



Capitalization, (See also "Capi- 
tal stock") 
defined, 16 
overcapitalization, 
good-will account to record, 
179 
Capital stock, (See also "Divi 
dends," "Investments," and 
"Subscriptions") 
accounting entries, 101 
allotment of, 183 
amount regulated by statute, 8 
assets from sale of, 19 
assignment of certificate, 64 
authorized, account, 82 
basis of determining amount, 8 
bonus, common stock, 21 
bonus paid in, 125 
cancelled for non-payment of 

instalments, 127 
certificate book, 60, 61, 62 
certificates, 61 

fee for issuance, 11 

instalment payments, 53, 54, 56 

issuance of, 11, 85 

loss of, 11, 71 

reissue of lost, 11 

signature, New Jersey statute, 

7 
"split," 65 
transfer, 65 
commissions paid in, 117 
"common," 22, 80, 81 
certificates, 61, 62 
dividends postponed to pre- 
ferred stock, 25 
defined, 8, 16 
donated, 21 

accounting entries, 119, 120, 

121, 122, 173 
mining corporation, 174 
proceeds not applicable to div- 
idends, 120 
trustee for, 174 



548 



INDEX 



Capital stock — continued 
entries, (See "Accounting") 
exchange of, 130, 131, 132 
"ex-dividend," 135 
forfeited, 172, 175 
full-paid, 19, 20, 21 

accounting entries, 103, 104, 

105, 106 

"full-paid and non-assessable," 

22 
functions of, 18 
instalment, accounting entries, 

106, 107, 108 
interest not paid on, 18 
issued and unissued stock, 19 
issued at par for value, 17 
issued for property or services, 

20 
issue limited by charter, 16 
kinds of, 16 

liability of holder of instalment 
stock, 20 

partly paid stock, 20, 21 
liability represented by, 81 
nature of, 18 
non-assessable, 22 
"original issue," 19, 101-118 

liability attached if issued as 
bonus, 125 

liability of purchaser if sold 
below par, 112 
outstanding, 19 
owner of record, 10 
ownership, legal evidence of, 71 
partly paid, 19, 20 
par value unspecified, 17 
preferred, 22, 23, 24 

account, 81 

certificates, 61, 63 

convertible, 26, 27 

dividends, cumulative, 24, 26 

guaranteed, 27 

non-participating, 26 

not a debt, 24 



sinking fund for retirement, 

287, 288 
voting right conditional, 24 
voting right denied, 24 
purchase of corporation's own 

stock, 126, 127, 128 
purchase of stock of other cor- 
porations, 129, 130 
reduction in reorganization, 474 
reduction regulated by statute, 

126 
register of transfers, 67, 68, 69, 

70 
resale of, 126, 127 
salaries paid in, 117 
sale of corporation's own stock, 

127 
sale of stock of other corpora- 
tions, 128, 129 
shares, par value of, 9 
sold after organization, entries, 

in 
stock book or ledger, 71, 72, 73, 

74, 75, 162 
subscribed, account, 85 
subscription list, forms, 52, 53 
subscriptions, 49. 157 
forfeited, 172, 175 
instalment payments, 51 
irrevocable if by charter ap- 
plication, 51 
list of, 50 

notes given in payment, 49 
paid by crediting dividends, 

147, 148, 149 
prorating of, 53 
rejection of, 53 
surplus created by issuance at 

premium, 116 
transfer book, 66 
transfer of, 10 
transfer tax, 14 
treasury stock, 19, 21, 22, 119- 
128 



INDEX 



549 



Capital stock — continued 
treasury stock — continued 
salable below par, 21 
underwriting bonus, 184 
voting rights, none, 126 
trust fund, payment of debts, 19 
underwriting expenses, 183, 184 
unissued does not receive divi- 
dends, 19 
unissued has no vote, 19 
unissued is valueless, 19 
voting, 12, 19, 22, 24, 33, 36, 37, 
39, 126 
corporation-owned shares 

have no note, 126 
cumulative, 12, 36, 37 
"watered," 27, 28, 29 
without par value, 89-91 
Capital surplus, 88 
Car trust bond, 219 
Cash book, 

entries, 165, 170 
Cash receipts and disbursements, 

349-351 
Cemeteries, 
non-stock corporations, 3 
tax (federal) exempt, 387 
Certificate of incorporation (See 

"Charter") 
Certificates, capital stock (See 

"Capital Stock") 
Chambers of commerce, 

tax (federal) exempt, 387 
Charitable corporations, 
Pennsylvania classification, 2 
tax (federal) exempt, 387 
Charter, 5, 6, 48, 156, 159, 529 
capital stock issued limited by, 

16 
filing of, 159 
issuance omitted, 5 
merger requires surrender of 
old, 410 



New York form of, 529, 530 

subordinate to state laws, 6 
Checks, dividend, 78, 138 
Chesapeake & Ohio Ry. Co., 

bonds sold at discount, 266, 267 
Churches, 

non-stock corporations (N. Y.), 

3 

Pennsylvania classification, 2 
Cities (See "Municipal corpora- 
tions") 
Civic leagues, 

tax (federal) exempt, 387 
"Close corporation," defined, 10 
Closing the books, 320-337 (See 

also "Accounting") 
Clubs, 

capital stock without par value, 

91 

tax (federal) exempt, 387, 388 
Collateral trust bond, 209, 217, 

245-248 
"Combination record," 47 
Combinations (See "Consolida- 
tions, corporate") 
Commissions, capital stock in pay- 
ment of, 117 
Committees, report of, 375, 376 
Common stock (See "Capital 

stock") 
Consolidated bond, 218 
Consolidations, corporate, 390-468 
holding companies, 392, 441-453 
accounting procedure, 443-453 
controlling corporation, 441 
subsidiary corporation, 442 
interlocking directorates, 393 
investigation, preliminary, 393- 
400 
assets, 394-397 
liabilities, 397, 398 
reports and certificates, 400- 

402 
revenue and expenses, 398-399 



550 



INDEX 



Consolidations — continued 

lease, 392, 429-440 

accounting procedure, 433-440 
guarantee records, 431 
property records, 430, 431 

merger, 391, 403-428 

accounting entries, 411-419, 

421-427 
balance sheet, 426, 427 
balance sheets of companies, 

404, 405 
charters of merging compa- 
nies, 410 
good-will apportioned, 407 
procedure and conditions, 403, 
404, 409, 410 
methods of, 391-393 
parent companies, 392, 454, 455 
purchase, 391, 392, 428 
purposes of, 390 
Constitutional provisions affecting 

bond issues, 199 
Construction bond, 219 
Contracts, receiver has option of 

cancelling, 484 
Convertible bond, 26, 27, 213, 214 
Convertible stock, 26, 27 
Co-operative organizations, 
New York State, 3 
non-stock corporations, (N. Y.) 
3 
Corporation, 
accounts (See "Accounts" and 

"Accounting") 
advantages of, 12, 13 
books and records, 44-79, 139, 
140, 231-238 (See also 
"Bond register," "Stock 
book," etc.) 
by-laws (N. Y.), 531-534 
calendar (See "Calendar") 
capitalization defined by charter, 
6 



charter, form of (N. Y.), 529, 

530 
"close," 10 

consolidation (See "Consolida- 
tion") 
created by legislative act. 3 
created by state laws, 3 
defined, 1, 10 
disadvantages, 13, 14 
dissolution (See "Dissolu- 
tions") 
"domestic," 4 

duration defined by charter, 6 
existence not affected by death 

or withdrawal, 6 
financial, double liability on 

capital stock, 116 
foreign, 4 

denial of state privileges, 4 
exclusion by state, when con- 
stitutional, 4 
license fees required, 4 
formation (See "Incorpora- 
tion") 
form of, 
business, 2 
financial, 2 

non-stock (New York), 2, 3 
stock (New York), 2, 3 
holding companies, 129, 392, 

441-453 
incorporation (See "Incorpora- 
tion") 
indebtedness limited by statute, 

199 
investigations preliminary to 

consolidation, 390-402 
kind of, 

non-profit making, 2, 3 
Pennsylvania classification, 2 
profit-making, 2, 3 
legislation controlling, 
Clayton law, 443 
Sherman Anti-Trust Act, 443 



INDEX 



551 



Corporation — continued 
liquidation of, 
assets, distribution of, 154 
property dividend declared, 

153, 154 

location defined by charter, 6 

management, 7, 13 

manufacturing, 166-171 
entries, opening, 167, 168 

mining (Michigan), 171-176 
entries, opening, 172, 173 

non-stock, capital stock without 
par value, 91 

one-man company, 10 

"operating companies," 129 

organization procedure, 156-163 

purposes defined by charter, 6 

receivership (See "Receiver- 
ship") 

receivership and reorganization 
(See "Receivership and re- 
organization") 

reorganization (See "Reorgani- 
zation") 

reports and statements (See 
"Reports" and "State- 
ments") 

reports required from, 15 

seal, 7 

social, 2, 91 

speculative, 
capital stock, full-paid, 21 
donated stock, 119 

stock of (See "Capital stock") 

subject to state law, 3 

taxable, 386, 387 

taxes levied upon, 14 

tax-exempt, 387, 388 

termination of, 10 
Countersignature, capital stock 

transfers, 69 
Counties incorporated (N. Y.), 3 
County clerk (N. Y.), 157 
Coupon bond, 210 



Coupons, 
form and nature of, 225, 226 
negotiable bonds, method of 

handling, 207 
payment of, 236 
receipt for, 237 
report covering, 236 
register, 237, 238 
suit for non-payment at ma- 
turity, 207 
Court decisions, 
Rubber Co. v. Goodyear (N. 
Y.), 134 
Cumulative dividends, 24, 25 
Cumulative voting, 12, 36, 37 
"Cutting a melon," 145 



Death of individual, does not af- 
fect corporation's existence, 
6 
Debenture bonds, 208, 209 

serial, 215 
Debts, corporate, 

capital stock issued in liquida- 
tion, 117, 118 
Deed of trust, 
bond issue covered by, 226, 227 
contents essential, 228, 229 
execution of, 230 
failure makes bond issue unse- 
cured obligation, 228 
filing of, 230 
Deficiency account, 335 

bankruptcy, dissolution 
through, 519, 524 
Deficit, 

balance sheet, consolidated, 462 
Depreciation, 
calculation of, 

diminishing value method, 329 
proportionate instalments, 328 
closing of books, 321 



552 



INDEX 



Depreciation — con tinned 
defined, 327 

machinery, rate on, 328 
methods of handling, 327, 328 
offset by improvement and main- 
tenance charges, 328 
Dickinson, A. Lowes, 
quoted on bond premium and 
discount, 269, 272-274 
Directorates, interlocking, 

consolidations, corporate, 393 
Directors, 

dividend declaration, 133 
elect officers, 7 
election of, 35 
liability of, 

dividends unearned declared, 

154, 155 
illegal dividends, 155 
meetings, 161, 162 

minutes covering, 537-540 
notices of, 39 
proxy not allowed, 39 
quorum, 39 
record of, 15 
number defined by charter, 6 
number prescribed, 7 
power to act, 7 

report to stockholders, 383, 384 
rights to examine books, 45 
stockholders elect, 7 
Discount, bond (See "Bonds, 

discount and premium") 
Dissolutions, corporate, 517-527 
bankruptcy, 517, 518 

deficiency account, 519, 524 
realization and liquidation ac- 
count, 519, 520 
trustee's cash account, 525-527 
informal, 517 
voluntary, 517 
Dividend, 

book, 76, 77, 138, 140, 141 



Dividends, 133-146 
account, 94, 95 
accounting entries, 101, 137 
bank, 153 
bond, 216, 217 
bonds issued in payment of, 152 

objections to, 152 
"bonus," 145 
by-laws covering declaration of, 

133, 134 
capital stock, preferred, 
cumulative, 25 

cumulative if not specified, 26 
non-cumulative, 25 
not a debt of corporation, 24 
capital stock subscriptions paid 

by, 147. 148, 149 
capital stock unissued does not 

participate, 19 
cash, entries covering, 141, 142 
check, form of, 78 
cumulative, 24 

entries covering, 149, 150 
method of handling unpaid, 
24 
declaration of, 133, 135, 136 
transfer books closed, 135 
declaration omitted, 134 
defined, 133 

directors' power to declare, 133 
endangering solvency of com- 
pany not permitted, 19 
illegal, 136 

impairing capital stock not per- 
mitted, 19 
"interim," 145, 146 
non-cumulative, expired if not 

paid, 24 
notes issued for payment of, 

152 
notice of, 78, 136 
publication, 136 
order, 79 
ownership of, 136, 137 



INDEX 



553 



Dividends — continued 
"passed," 134, 149, 150 

contingent liability, 150 

entries covering, 150 
payment of, 137, 138 

borrowed money for, 143 
premium on capital stock not di- 
rectly applicable for, 88 
profits payable as, 8 
property, 153 
receipt for, 141 
resolution declaring, 135 
scrip, 144, 145 

definition, 144 

entries covering, 144, 145 
sheet or list, 138, 139, 141 
special, 145 

entries covering, 146 
stockholders' liability when divi- 
dends are credited, 147 
stock issued in payment of, 151 
surplus as means of equalizing, 

134 
unearned, 154, 155 
Donated stock (See "Capital 

stock, donated") 
Donation account, 87 



Educational organizations, 

tax (federal) exempt, 387 
Election, 

directors', 35 

inspectors of, 35 

officers', 40 
Electric light and power (See 

"Public utilities") 
Employees, profit-sharing, 145 
Entity, corporate, 

foreclosure proceedings, 470 
Entries (See "Accounting") 
Equipment trust bond, 219 
Erie Railroad Company, 

sinking fund provisions, 281 



Escrow bonds, 202 
Expenses of bond issue, 268 
Extension bond, 219 
Extinguishment fund (See "Sink- 
ing funds") 



Farmers', 

mutual insurance, 
tax (federal) exempt, 388 
Farm-loan associations, national, 

tax (federal) exempt, 388 
Federal Income Tax, 14 

assessment date, 43 

report for, 42 
Fees, 

filing certificate of incorporation, 

157 
payment of state, 159 
recording certificate of incor- 
poration, 157 
Fiscal period, 

closing of books, 320, 321 
Foreclosure proceedings, 
entity of corporation does not 
pass, 470 
Franchise tax (See "Taxes, 

corporation") 
Fraternal beneficiary societies, 

tax (federal) exempt, 387 
Fruit-growers, mutual associa- 
tions, 
tax (federal) exempt, 388 
Funded debt (See bonds, 203) 
Funds, reserve (See "Reserves") 



Gas (See "Public utilities") 
General Electric Co., 

good-will, treatment of, 180 
Gold bond, 213 
Goodrich, B. F. Co., 

good-will, 178 



554 



INDEX 



Good-Will, 

account, 99, 100 

accounting treatment of, 179 

apportionment in merging com- 
panies, 407 

book value unchangeable, 180 

defined, 177, 178 

fictitious, 475 

General Electric Co., treatment 
of, 180 

Goodrich, B. F. Co., valuation, 
1/8 

Royal Baking Powder Co., valu- 
ation, 178 

valuation, formula for, 178, 179 

Victor Talking Machine Co., 
treatment of. 180 
Guaranteed bond, 217, 218 
Guaranteed stock, 27 

H 

Holding companies, 129, 392, 441- 

453 
Horticultural corporations, 

tax (federal) exempt, 387 
Hospitals, Penn. classification, 2 



Illegal corporate action, 

convertible stock and bond 
question, 26 
Illinois, 

incorporation of partnership in, 

177 
statutes, 

account, books of, 186 

capital stock must be entirely- 
subscribed, 180 

capital stock, one-half must be 
paid, 180 

capital stock, purchase and 
sale, 128 

incorporation dissolves part- 
nership, 180 



Impairment of capital, 91, 93, 154, 

155 
Income, 

account, consolidated, 468 
bonds (See "Bonds, income") 
interest charge, 274 
interest on investments, 264, 265 
statements, 343-349 
tax (See "Federal Income 
Tax") 
Incorporation, (See also "Cor- 
poration") 
agreement for, 181, 182 
charter, 5 

form of (N. Y.), 529, 530 
partnership, 24, 156-165, 177- 

194 
procedure of, 4, 5 
pro forma statement, 103 
proprietorship (New York), 

156-165 
State requirements and privi- 
leges vary, 4 
Incorporators, 
eligibility of, 5 

number of (New York), 156 
qualifications required of, 156 
Indebtedness, 
bonded, 203 
Inheritance tax, 14 
Insolvency, 
dissolution of corporation, 517, 

5i8 
liability of purchasers of partly 
paid stock, 20 
Instalment, 
account, 86 
book, 57, 58, 59, 107 
receipts, 54 
scrip, 54, 55 

stock, liability of holder, 20 
Insurance companies, 
capital stock issued at premium, 
116 



INDEX 



555 



Insurance reserves, 333, 334 
Interest, 
bond, 210, 218 (See also 
"Bonds") 
account, 97 
■ bonds, not coupon, 235 
bonds sold between interest 

dates, 267 
capital stock does not draw, 18 
construction charged with, 263, 

264 
income from investments, 264, 

265 
on mortgages, account, 97 
sinking funds, 292 
International Harvester Co., 
reserves for insurance, benefit 
and accident funds, 333, 334 
Interstate commerce, 
1 foreign corporation entitled to 
privileges granted domestic 
corporation, 4 
Interstate Commerce Commission, 
bonds issued and outstanding, 

203, 204 
interest charged to construction, 
263, 264 
I sinking fund regulations for 

railroads, 289, 290 
'inventories, 

closing of books, 321 
Investment, (See also "Sinking 
funds") . 
account, 100 

purchase and sale of stock of 
other corporations, 128 

J 

Journal (See "Accounting en- 
tries") 
Junior lien bond, 209 

L 

Labor organizations, 
tax (federal) exempt, 387 



Lease, consolidation by, 392, 429- 
440 (See also "Consolida- 
tion") 
Leases, receiver's option of can- 
celling, 484 
Ledger, 

accounts (See "Accounts") 

closing of, 322, 323 

stock, 169 

subscription, 84 
Liabilities, 

contingent, closing of books, 322 
Liability, 

bond vendor's, 205 

capital stock partly paid, 20, 21, 

147 

corporate capital stock is not 
legally, 18 

directors', 154, 155 

purchaser's, capital stock origi- 
nal issue below par, 112 
License fees, state taxes, 14 
Lumber corporation, 

balance sheet consolidated, 463, 
466, 467 

M 

Machinery, depreciation on, 328 
Macpherson, F. H, F.C.A., C.P.A., 
quoted on Corporation Ac- 
counting and Investigations, 
3931-402 
Manager, 
duties of, 8 

responsible to directors, 8 
Manufacturing, 
account, 355 
corporation, 

Pennsylvania, 166-171 
statements, 352-364 
Meetings, 
annual, 30 

by-laws govern time of, 31 
directors, election of, 35 



556 



INDEX 



Meetings — continued 
annual — con tin ued 

formalities, opening, 34 

minutes of, 38 

notice, method of giving, 33 

notice to stockholders, 31 

officers' reports, 37 

preliminary arrangements, 31 

procedure at, 34 

quorum, 33 

time of, 31 

transfer books, closing, 32 

voting rights, 32 
directors', 

election of officers, 40 

minutes of, 537-540 

notices of, 39 
legal requirements as to, 30-33 
minutes (See "Minutes") 
notice of, 31, 32, 33, 40 
proxy (See "Proxy") 
special, 30, 40 

authority for call of, 40 

bond issue requires, 200 

legality of notice a factor, 40 

notice must state business, 30, 
40 
stockholders', 30, 31, 32, 33, 160, 
161, 534-537 

laxity in small corporations, 
30, 31 

quorum specified in by-laws, 

33 
quorum specified in statutes, 

34 
voting (See "Voting") 
waiver of notice, 42, 161, 540, 

541 
Merger (See "Consolidations, 

corporate") 
Michigan, 

corporation, mining, 171-176 
Mines, exhaustion of, 

sinking fund covering, 331-333 



Minutes, 

annual meetings, 38 

arrangement of, 39, 48 

book of, 15, 47, 48 

corrections, method of making, 
35 

directors', form of, 537-540 

essentials to be included, 38, 40 

quorum or number present 
should be recorded, 34 

safeguarding of, 47 

stockholders' form of (N. Y.), 
534-536 
Missouri Pacific Co., 

notes, extension of, 318 
Missouri statutes, 

holding companies prohibited, 
442 
Motions,- verbatim record on min- 
utes, when needed, 38 
Municipal corporations, 

New York state, 2, 3 

Pennsylvania classification, 2 
Mutual companies, 

tax (federal) exempt, 388 

N 

New Jersey, 

merger of corporations, 403-428 
statutes, 
capital stock certificates, 7 
capital stock purchase and 

sale, 128 
convertible stocks and bonds, 

U. S. Steel, 26 
holding companies permitted, 

442 
suit prior to foreclosure for- 
bidden, 207 
New York State, 

comptroller, report to, 43 
corporate calendar, 41, 42, 43 



INDEX 



557 



New York State — continued 
corporate organization proce- 
dure, 156 
kind of corporations, 2, 3 
proprietorship incorporated, 156- 

165 
Public Service Commission, 246, 

247 
statutes, 
accounting records, examina- 
tion of, 45 
capital stock purchase and 

sale, 128 
capital stock without par, 119 
charter, 529, 530 
corporation shares without 

par value, 17 
director's right to examine 

books, 45 
quorum stockholders required, 

34 
receivership, 482 
stock book, 45, 162 
stock book or ledger pre- 
scribed, 72, 75, 162 
subscriptions not payable by- 
note, 49 
New York Stock Exchange, 

register required by, 69 
Nominal issued bonds, pledged as 
security for bank loans, 316 
Non-assessable capital stock, 22 
Non-cumulative dividends, 25 
Non-participating preferred stock, 

26 
North Carolina, statutes, bond is- 
sues affected by, 199 
Notes, 
collateral lien, 220 
dividends paid with, 152 
short term, 220, 246 

redemption of, 316 
subscriptions paid by, 49 



Notices, 

dividend, 136 
meetings, 31, 32, 33 
special meetings, legality de- 
pends upon notices, 40 



Officers, 

duties denned by statute in New 
Jersey, 7 

duties defined in by-laws, 7 

election of, 7, 40 

reports of, 375-383 
"One-man company," 10 
Opening entries (See "Ac- 
counting") 
Operating companies, 129 
Organization, 

expenses, account, 92 

expenses, entries covering, 163 

procedure, 156 

tax (N. Y.), 157 
Overcapitalization (See "Capi- 
talization") 



Parent companies, 
consolidations, corporate, 392, 

454, 455 
Partnership, 
books, closing of, 191-195 
defined, 1 
incorporation of, 24, 156-165, 

177-194 
liability of individual, 12 
Patent rights, 

capital stock in payment for, 123 
Penalty, 
annual report to state (N. Y.) 

not filed, 42 
comptroller (N. Y.) report to, 

43 
stock book not open for inspec- 
tion (N. Y.), 45 



553 



INDEX 



Pennsylvania, 
books required by statute, 166, 

167 
charter limits to one object, 156 
corporate reports required, 386 
corporation, manufacturing, 166- 

171 
kinds of corporations, 2 
payments required by statute, 

166 
receiver's liability, 484, 485 
statutes, 
capital stock purchase and 

sale, 128 
receivership forms and pro- 
cedure, 490-501 
Pennsylvania Railroad Co., 
bonds, guaranteed, 317 
bonds sold at premium, 266, 267 
capitalization, 10 
leased property, guarantees not 

recorded on ledger, 431 
reserves for insurance, benefit 
and accident funds, 333 
Preferred dividends, 23 
"Preferred" stock (See "Capital 

stock, preferred") 
Premium, 
bond (See "Bond discount and 

premium") 
on capital stock, account, 88, 
114, 115, 116 
President, 

duties of, 7 
Profit and loss account, 
manufacturing corporation, 358, 

359 
trading corporation, 367, 368 
Profit-sharing, 145 

bond, 216, 217 
Profits, 
accounting entries, 101 
divided without dividend being 
declared, 134 



dividends payable from, 8 
errors calculating, 154 
salaries as medium of conceal- 
ing, 134 
undivided (See surplus, 93) 
Pro forma statement, 103 
Property dividends (See "Divi- 
dends, property") 
Proprietorship, 
defined, 1 

incorporation of (N. Y.), 156- 
165 
Proxy, 
directorate affected by, 33 
director's, not allowed, 39 
notice of meeting usually con- 
tains, 33 
stockholders' meeting, 536 
voting rights, 31 
Public Service Commission, 
New York, 
bond issue expenses, 268 
bonds, collateral trust, 246, 
247 
"Surplus and Deficiency" ac- 
account, 335 
Public utilities, 
bond issue, regulations covering, 

198, 199, 200, 240 
form of corporation, 2, 3 
Interstate Commerce Commis- 
sion, report to, 386 
Purchase money bond, 220 



Quarries, exhaustion of, 

sinking fund covering, 332 
Quasi-public corporations (See 

"Public utilities") 
Quorum, 
by-laws specify, 33 
Canada, two minimum at meet- 
ting, 34 



INDEX 



559 



Quorum — continued 

directors' meetings, by-laws 
regulate, 39 

England, two minimum at meet- 
ing, 34 

New York, representation re- 
quired by statute, 34 

statutes regulate in some states, 
34 



Railroads, (See also "Public 
utilities") 
sinking funds, Interstate Com- 
merce Commission regula- 
tions, 289, 290 
Realty, bond issue involving, 230 
Receipt, treasurer's, 

capital stock payments, 60 
instalment payments, 55 
Receiver, 

accounts of, 485, 486 
appointment, 481, 482 
authority of, 481 

contracts, cancellation of, 484 
leases, cancellation of, 484 
bankruptcy cases, 485 
certificates of indebtedness, 484 
compensation of, 485 
definition, 481 
liability of, 484, 485 
limitations placed upon, 483 
powers of, 482, 483 
receivership and reorganization, 

487-507 

Receivership, 481-486 (See also 
"Receivership and reorgan- 
ization") 

Receivership and reorganization, 
487-507 
accounting procedure for re- 
ceiver, 493, 494, 49s 
Pennsylvania requirements, 490- 
501 



preliminary arrangements, 487 
reorganization, 
adjustment of accounts, 503- 

505, 506, 507 
agreement, 488, 489 
committee, 488 
notice to bondholders, 488 
Receivership and sale, 508-516 
accounting procedure, 509-516 
property transfers, county rec- 
ords must cover, 515 
Record, "combination," 47 
Records, 44-79, 139, 140, 231-238 
(See also "Bond register," 
"Stock book," etc.) 
Redeemable bonds, 215, 216 
Redemption of bonds, 206, 215, 
216, 305-319 (See also 
"Bonds") 
Refunding bonds (See "Bonds, 

refunding") 
Register, 
bond, 231, 232, 233 
stock, 69, 70 
transfer, 67, 68 
Registered bond, 207, 210, 211 
Registrar, 65 

New York Stock Exchange re- 
quirements, 69 
Religious organizations, 

tax (federal) exempt, 387 
Reorganization, (See also "Re- 
ceivership and reorganiza- 
tion") 
agreement method, 469-480 
balance sheets, 

prior to adjustment, 476, 477 
subsequent to adjustment, 480 
bonds, 218 

capital stock reduction, 470, 471 
accounting requirements, 473, 

474, 478, 479 
statutory requirements, 473 
conditions of, 475 



560 



INDEX 



Reports, 374-389 
annual, to state (N. Y.), 42 
auditor's, 375, 376, 377, 378, 

379 
committees', 375, 376 
corporation to government, 15 
directors', 383, 384 
manager's, 375, 379, 380 
officers', 375, 380-383 
president's, 375, 381-383 
statutory, 384 
federal, 386 

fiscal or calendar year, 389 
state, 385 
tax, federal, 15 
tax, local, 15 
tax, state, 15 
treasurer's, 375, 380, 381 
''Reserve Fund," 
English and Canadian term for 
surplus, 334 
Reserves, (See also ''Sinking 
funds") 
bad debts, 324 
closing of books, 321, 323-327 
depreciation, 330, 331 
funds for, 323-325 
secret or hidden, 325-327 
created by acts or omissions, 
326 
Resignation, individual, 
no effect on corporation's ex- 
istence, 6 
Resolution, 

dividend, 135 
Royal Baking Powder Co., 

good-will, 178 
Rubber Co. v. Goodyear (N. Y.), 
dividends reduced by salary in- 
creases, 134 



Salaries, 
capital stock in payment of, 117 



Sale, 
property transferred by re- 
ceiver, county records must 
cover, 515 
Scientific organizations, 

tax (federal) exempt, 387 
Scrip dividend (See "Dividend, 

scrip") 
Seal, corporate, 7 
Secretary, duties of, 7 
Secretary of State (N. Y.), 157 
Serial bonds, 214, 215, 
Share ledger, 71, 72 
Shares, 
par value of, 9 
value unspecified, 17 
Sinking funds, 204, 279-304 
account, 98, 289 

adequate deposits necessary, 284 
annuity method for, 285 

formula for calculating, 286, 
287 
balance sheet treatment of, 301, 

302 
cash, investment of, 284 
creation of, 280 
definition, 279 
instalment entries, 291 
interest, 292 

accrual entries, 293 
investment entries, 293-296 
mines, exhaustion of, 331, 332, 

333 
preferred stock retired by means 

of, 287 
premiums, 297 

railroad, Interstate Commerce 
Commission regulations, 
289, 290 
reserve account, 98, 99 
entries, 299, 300, 301 
Interstate Commerce Commis- 
sion regulations, 289, 290 
method of establishing, 283 



INDEX 



561 



Sinking funds — continued 
safeguarding, 283 
timber companies, 280 
trustee, 283 

trustee's books, entries, 302-304 
Social corporations, 2, 91 
"Split" stock certificate, 65 
Sprague, Charles E., 
quoted on sinking funds, 285, 
294 
Statements, financial, (See also 
"Reports") 
balance sheets, 339-343, 356, 357 
cash receipts and disbursements, 

349-351 
forms of, 338-351 
income and profit and loss, 343- 

349, 358, 359 
manufacturing corporation, 352- 

364 
balance sheet, 356, 357, 363 
manufacturing account, 355, 

363 
trading and profit and loss ac- 
count, 358, 359, 3^3 
trial balance, 352, 353 
profit and loss, 343-348 
trading corporation, 365-373 
balance sheet, 368, 369 
comparative in percentages, 

370 
trading and profit and loss, 

367, 368 
trial balance, 365, 366 
Statutory provisions, 

bond issues affected by, 199 
Statutory requirements, (See also 
various states by their 
names) 
meetings, 30, 31 
stock ledger, 71 
Stock (See "Capital stock") 
Stock book, 71, 72, 73, 74, 75, 162 



method of keeping, 72, 73, 74, 75 
New York forms of, 75, 76 
Stock corporation, 2 
Stock discount account, 88, 113 
Stock dividend (See "Dividends") 
Stockholders, 2, 9 
annual meeting (See "Meet- 
ings") 
interest indicated by shares of 

capital stock, 18 
liability limited, 13 
meeting, first, 160, 161 
call and waiver of notice, 537 
minutes covering, 534-536 
meetings, record of, 15 
minority, 
cumulative voting advantages, 

12 
protection of, 12 
of record, 71 
rights, 

dividend ownership, 136, 137 
examination of corporate 

books, 45 
voting, 12 
Stock ledger, 71, 72, 169 

method of keeping, 72, 73, 74, 75 
Stock scrip, 55 

instalment payments, 56, 57 
Stock transfer book, 66 
Subscriptions, (See also "Capital 
stock") 
account, 84 

notes given in payment of, 49 
payment of, 60 
Surplus, 
account, 93, 94, 334-337 
contributed, 335 
dividends equalized by means 

of, 134 
falsified by inflation of assets, 

94 
investment of, 336 
losses provided for by, 134 



562 



INDEX 



Surplus — continued 

not for dividend purposes, ac- 
count (See reserve, perma- 
nent, 99) 

unappropriated profits, 92 



Taxes, 

corporation, 14 
city, 42 

Federal Income, 14, 42, 43 
franchise tax payable (N. Y.), 
42 

inheritance, 14 

state, 14 
Tax reports, 

federal, local, and state, 15 
Telegraph (See "Public utilities") 
Telephone (See "Public utilities") 
Terminal bond, 219 
Terminology, bonds, 202, 203 
Timber companies, 

sinking funds for, 280 
Timber lands, exhaustion of, 

sinking fund covering, 332 
Trading account, 

manufacturing corporation, 358, 

359 
trading corporation, 367, 368 
Trading corporation, 
statements, 365-373 
Transfer agents, 65 

stock book or ledger required in 
N. Y., 75, 76 
Transfer books, 66 

closing before annual meetings, 

3i, 32 
closing before payment of divi- 
dends, 135 
Transfer register, 67, 68 
Transportation (See "Public util- 
ities") 



Treasurer, 

duties of, 7, 8 

New York state, 157 
Treasury bonds (See "Bonds") 
Treasury stock, 19, 21, 87, 1 19-128 

asset of corporation, 22 

salable below par, 21 

trustee, 22 
Trial balance, 

closing of books, 322 

manufacturing corporation, 352, 
353 

trading corporation, 365, 366 
Trust companies, 

capital stock issued at premium, 
116 

capital stock subject to special 
liabilities, 20 
Trust company as receiver, 482 
Trustee, 

bonds conveyed to, 200 

certificate, 226, 227 

corporate bond issues, duties, 
230 

treasury stock, 22 



U 



Underlying bond, 213 
Underwriting, 

expenses, 183, 184 

treasury stock as bonus for, 184 
Undivided profits (See "Sur- 
plus") 
Unissued stock account, 81, 82, 83 
United States Government, 

corporate reports required, 386 

income tax on corporations, 386 
United States Steel Corporation, 

bonds, 212 

bonds, coupon form, 221-223, 
225, 226 

bonds, redeemable issue, 216 

capitalization, 10 



INDEX 



563 



United States Steel Corporation 
— continued 
convertible stock and bond is- 
sues, 26 
holding company, 129, 442 
reserve for depreciation, 332 
reserves for insurance, benefit 

and accident funds, 3331 
sinking fund premiums, 297 
sinking fund provisions, 281, 282 
trustee's certificate, form of, 227 
Unsubscribed stock (See "Un- 
issued stock") 
Usury, 

bonds, sale of, 205 
Utilities (See "Public utilities") 



Vice-president, duties of, 7 
Victor Talking Machine Co., 

good-will, treatment of, 180 
Voting, 

capital stock owned by corpora- 



tion issuing it has no vote, 
22 

capital stock, unissued, has no 
vote, 19 

cumulative, 12, 36, 37 

formula for determining num- 
ber of votes, 37 

preferred stock rights, 24 

proxy, 31, 33, 39 

stockholders, rights of, 12 
annual meeting, 32 

W 

Waiver of notice, 

directors' meeting, 42, 540, 541 
stockholders' meeting, 161, 537 

Watered stock, 27, 28 

"Watering the assets," 94 

Withdrawal, 

individual, does not affect cor- 
poration's existence, 6 

Working capital donated account 
(See "Donation account") 



3477 
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